By Win Thin, Senior Currency Strategist, BBH
In light of recent attention on Eastern Europe, here are some thoughts on Romania. The government has been unable to sell local debt at its self-imposed cap of 7% because investors have been unwilling to finance the country at such low rates. It failed to sell any 3- and 5-year paper this month, and instead issued paper at the short end (6-, 9-, and 12-month bills). Over the past four months, the Finance Ministry rejected all bids for 3-, 5-, and 7-year paper at eight auctions. Besides issuing at the short end, Romania is hoping to sell euro-denominated debt to make up for the shortfall. It last sold foreign currency debt back in March, but that was when market sentiment on EM was much more positive. Romanian officials are mistaken if they think they can dictate what rates it can borrow at in this environment. The more auctions that fail now, the more trouble Romania will be in down the road. Indeed, one of the assumptions behind any debt sustainability framework centers around getting borrowing rates back to “normal” levels. We aren’t seeing that in the euro zone periphery, and neither are we seeing it in the weaker Eastern European credits.
EUR/RON has fallen back after spiking to a record high 4.40 in June, but given the global backdrop, we would expect this pair to creep upwards in the coming weeks. The 4.23 area represents the 50% retracement level of the big March-June rise, and is providing a strong base for the euro right now. We would buy EUR/RON at current levels around there for a move back to 4.40. We would also add that political instability is an issue that is likely to get worse. The minority government barely survived a vote of no confidence in June over plans to cut pensions and salaries, and another vote is likely to be called by the opposition this fall. Popularity of the government has plunged to all-time lows.
We noted earlier how bad debt was piling up in Hungary, and it looks the same in Romania. Central bank last week reported that loans more than 30 days overdue doubled to RON13.45 bln in July from RON5.9 bln a year earlier. Overdue foreign currency loans (mostly EUR) rose to the equivalent of RON6.4 bln from RON2.4 bln a year ago. Note that Romania’s banking sector is dominated by foreign banks, including Austria (38% of the market), Greece (17%), and France (15%). The IMF remains supportive of Romania and its USD17.1 bln Stand-By Arrangement (part of the USD26.4 bln total international aid package), and just this month approved the fifth review under the program. IMF noted that “The Romanian banking system remains well capitalized. The capital adequacy ratio at end-June was 14.3 percent and all banks had a ratio exceeding 10 percent compared to the mandatory ratio of 8 percent. Obviously, the recession adversely affects the level of non-performing loans but provisions are increasing accordingly to cushion the impact.” Still, the longer the recession lingers, the worse it’s going to get in terms of bad loans.
