$Unique_ID{bob00450} $Pretitle{} $Title{Romania Chapter 4. Finance} $Subtitle{} $Author{Donald E. deKieffer} $Affiliation{Embassy of Romania, Washington DC} $Subject{currency foreign romania bank romanian market banks monetary credit exchange} $Date{1990} $Log{} Title: Romania Book: Doing Business with the New Romania Author: Donald E. deKieffer Affiliation: Embassy of Romania, Washington DC Date: 1990 Chapter 4. Finance The collapse of the Ceausescu regime contained several ironic benefits for the Romanian economy beyond the obvious. Through extreme austerity, the Ceausescu monetary policies had succeeded in reducing Romania's external debt of over $15 billion to a $1.7 billion surplus by the time he was deposed. This contrasts sharply with the colossal debt of some surrounding countries such as Hungary, which suffers one of the highest per-capita foreign debt burdens in the world. The severity of the burdens placed on the Romanian population for more than a decade to achieve this enviable position also conditioned it to accept only slight improvements in living standards following the revolution. This has allowed the monetary and fiscal authorities of the new government time in which to develop plans to transform the economy to one based on a true market system without the immediate concern of civil insurrection due to continued deprivation. Notwithstanding the favorable external debt situation, the Romanian economy still bears the substantial burden of either completing some of the grandiose projects of the late dictator or writing them off at the cost of billions of lei. Further, Ceausescu had a habit of awarding foreign credits to countries whose favor he attempted to curry, with little regard to those nations' ability to repay. It is likely that many of the "credits" carried on Romania's books are in fact bad debts which will have to be written off. Even with these, however, Romania still has at least a "balanced" foreign account-something almost unheard of in newly-free countries. CONVERTIBILITY The most pressing problem for Romania's monetary authorities is the lack of convertibility of the local currency. Even with a surplus in current accounts, it would likely take the infusion of at least $5-6 billion in hard currency if massive inflation is to be avoided. The extension of such credit, of course, would likely come from the IMF. Their cooperation, in turn, would depend upon their confidence in Romania's ability to make timely payments. This, again, is problematic. In its zeal to pay down the loans over the last ten years, the Ceausescu government curtailed imports of even capital goods and high-technology equipment. Except for high-profile schemes such as the "rebuilding" of central Bucharest, the infrastructure was ill-maintained, and Romania's ability to compete with Western (and Asian) countries in a world market deteriorated. It is precisely in these areas that Romanian central bankers are most anxious to develop to improve their credit rating. Compounding these problems in the legacy of currency control which existed over the past five decades. During the Ceausescu era, black market currency transactions occurred, but only at great risk to the participants. The new government feels that 10-year prison sentences for currency conversion are incompatible with its professed dedication to a free market (and not incidentally to individual freedom). The result has been unfortunate. While maintaining the old system of currency controls, enforcement is now almost non-existent. While official numbers are not available for obvious reasons, "street bankers" probably conduct as much business as the Romanian Bank of Foreign Trade. The "spread" between the official rate and the (black) market rate ranges from 3-1 to as much as 7-1. The "private" sector, then, is undermining the efforts of the central bankers to implement a gradual transition to a market economy. This may not be altogether bad. Bankers as a race tend to be cautious. The growing disparity between their policies and the reality of the marketplace may serve to drive individuals previously content with handling government accounts to recognize the realities of a free market. The stakes in this, however, are vast. Immediate conversion to a "convertible" system would undoubtedly fuel massive inflation and drive down living standards, something the new government can ill afford. The "street market" pressures, however, will force the monetary authorities to act with more alacrity than they might otherwise prefer in approving development credits to finance the expensive "reentry" into the mercantile world. As it now stands, however, there are enormous bargains to be had in Romania-even at the "official" rate. Traditionally, Romania had little to sell to foreigners at almost any price. With the new commitment to private ownership, however, land, factories, equipment and products can be purchased for a fraction of their price in the West. This, too, concerns the monetary authorities. They worry that a deluge of Japanese and European money will literally indenture the country to foreigners. This is an unhappy time to be a Romanian banker, but a delight to those with hard currency. Given the skills of the Romanian work force, ample natural resources, a strategic location and a commitment to liberal democracy, establishment of production facilities in Romania before 1995 appears to be a certain winner. The mid-term recovery of invested capital-in hard currency-is almost forgone with prices as low as they are today-especially since the monetary authorities themselves are encouraging this type of investment to retrieve their credibility as a debtor. BANKING Until recently, Romania's banking system was a state monopoly. The National Bank of Romania was nationalized on December 20, 1946, and all private banks on June 11, 1948. for 43 years, the Romanian banking system was an adjunct of Romania's centrally-planned fiscal and monetary policies. Recent changes in legislation, however, permit competition in the banking sector, and the financial markets are due to become highly diversified in the next several years. It is likely, however, that the existing banks will continue to do business, although in substantially different forms. The main financial institutions are the following: The National Bank of Romania The National Bank of Romania (NBR) exercises the functions of a central bank and, together with the Ministry of Finance, sets the foreign exchange rate, establishes foreign exchange budgets and decides on the distribution of exchange balances among various currencies and depositories. The NBR also issues and circulates currency, executes the state budget, supervises the implementation of the financial credit and currency policy, cash and non-cash discounts and loans to government corporations. By 1991, it is likely that the functions of the NBR will be restricted to the traditional functions of a central bank, and that its role is the chief financing agency for government corporations will be shifted to the commercial sector. The Romanian Bank for Foreign Trade This is the institution most frequently encountered by foreign businessman. Although it is subordinate to the NBR, the two banks interchange personnel. The RBFT is primarily responsible for payments related to international trade and service transactions. Services traditionally available from the RBFT include confirmation of letters of credit, endorsement of bills of exchange, payment against shipping documents, discount of commercial paper, credit guarantees, purchases and sale of foreign currency, and other commercial transactions. The RBFT may also conclude agreements with foreign banks concerning financial transactions and accounting practices. The RBFT maintains correspondent relationships with hundreds of banks worldwide and has a fair credit rating in world financial circles. The RBFT also provides foreign exchange facilities for tourists, diplomats and visiting businessmen. After its reorganization, the RBFT will also provide credits to the Romanian private sector, especially for joint venture projects with foreign firms. It is now permitted to extend credit to both foreign and domestic enterprises in either hard currency or lei. It has established concessionary banks in six countries, and hopes to open at least a dozen more by 1995. RBFT officials expect to move this institution into the role of a true international merchant bank, and away from its prior function of financing the international monetary policies of the state. Even now, it is willing to discuss financing in Romania of any investment project, either using foreign currency or locally-generated funds. Investments Bank This institution finances, credits and discounts investments of state-owned economic units and those of the handicrafts cooperatives, consumer cooperatives and public organizations. Due to the recent liberalization of the laws, the Investments Bank is searching for a new role. It appears likely that this institution will become one of the transitional mechanisms for providing capital to the new Romanian private sector. Small business credit has been wholly lacking in Romania in the Western sense of the term for more than 40 years. Whether this bank will become the leading institution in providing access to the more than 30 billion lei in domestic consumer savings is still unknown. It is clear, however, that this bank will become a competitive commercial institution by the end of 1990, providing local capital to the private sector. The Bank for Agriculture and Food Industry This bank has traditionally financed and discounted production, investments and goods circulation in agriculture, the food industry and water management. Since the agriculture sector (along with tourism) is one of the primary "targets" for development of the new government, this bank is likely to play a central role in financing development in these markets. In particular, the bank is prepared to lend funds for the creation and development of food processing facilities as well as assisting the creation of the necessary infrastructure to support a modern agricultural economy. The Loans and Savings Bank This was the traditional Romanian equivalent of a Western-style savings and loan (Building Society) system. Since Romanians could rarely purchase their own homes under the prior regime, however, its primary role has been as a depository of consumer savings. It has made some consumer loans, but has far to go in developing a "full service" position even roughly equivalent to a Western consumer financial institution. While the matter is still under debate, it appears likely that some form of consumer-oriented financial service industry will develop with the leadership of this institution. Foreign Banks There are several foreign banks operating in Bucharest, including Societe Generale, Manufacturers Hanover, Misir Bank and Frankfurter A.G. Applications are pending for several more banks, and two joint ventures are currently planned with Romanian financial institutions. Until recently, foreign banks were severely limited by law in the services which they could offer. They were prohibited from offering any local loans, and could not even cash "hard currency" checks written by visiting business executives. They were legally regarded as "offshore" institutions, and mostly serviced their foreign clients from Bucharest offices. Recent legislation has expanded the scope of services available from these banks, and it is inevitable that more will come to the country in the immediate future. It is generally assumed that these banks will even be allowed to offer loans in local currency and accept deposits from Romanian enterprises and individuals. INSURANCE Insurance in Romania was previously the monopoly of the State Insurance Administration (ADAS). This company is now in the process of privatization. It offers compulsory and voluntary insurance for corporations and individuals. In addition, it is now in a position to participate in joint ventures with foreign investors, both in the field of insurance and unrelated areas. Until February, 1990, all funds of ADAS were required to be deposited in State banks. Now the company is free to invest in any project in Romania, although its ability to underwrite foreign ventures is still in doubt. For further information, contact Administratia Asigurarilor De Stat (ADAS), 5 Smirdan, Bucharest 70406; telephone 14.77.48; telex 11209; fax 13.91.06. EXCHANGE CONTROL Foreign visitors entering Romania may bring with them any amount of foreign currency. Export of lei in cash is prohibited. While in Romania, foreign visitors may legally exchange currency only at the foreign trade bank or other authorized bodies. Foreigners changing currency must ask for an exchange voucher which will enable them to prove, on leaving the country, that all transactions have been done legally. This voucher entitles them to reconvert the unspent lei into hard currency. Visitors should be aware, however, that tourists are generally required to spend the equivalent of $10 in hard currency each day in Romania, unless traveling on a prepaid, all-inclusive tour. Visitors should retain receipts for all money exchanges and purchases to present on departure. Trading Romanian trading entities must apply to the Foreign Trade Bank to obtain the convertible currency necessary to pay for imports. The terms of payment are established in the sales contract concluded with foreign firms. Payment can be made by documentary letters of credit, payment on receipt of the documents, simple transfer or any other method used in banking practice. In putting letters of credit into effect, Romania usually applies the rules of the "Uniform Customs and Practice for Documentary Credits" of the International Chamber of Commerce. Black Market Like almost all Eastern European countries, there is a thriving black market in Western currency. To say that the authorities disapprove of street transactions, in lei, however, would be an understatement. There are severe criminal penalties for such transactions. The "entrapment" defense is definitely not an option in Romanian courts. The risk is hardly worth the small profit that might be made in such illegal transactions. TAXES For years, taxes were almost irrelevant for domestic Romanian companies. Since the State controlled almost all economic enterprises in any event, taxing profits was effectively a tax on itself. The country did have a nominal tax code which had effective application primarily on foreigners doing business in the country. Now, however, Romania, like other East European nations, is scrambling to develop a tax code which reflects the realities of an open market. The Romanians are looking primarily to the French system as a model for their revised tax laws. The tax laws, however, are developing rapidly; investors and traders should seek up-to-the-minute advice concerning the latest changes before signing any agreements with a Romanian entity. Treaty The tax treaty between the United States and Romania, which came into effect in February, 1976 is designed to avoid double taxation of business, personal service and investment income. American citizens may credit most taxes paid in Romania against their U.S. income tax. Tax rates on interest and royalty income are reduced. The treaty also assures non-discriminatory treatment by providing that citizens and businesses of one country will not be taxed more in the other country than are the host country's own citizens and businesses. MOST FAVORED NATION STATUS Before signing any agreement to import products from Romania to the United States, business executives should check whether Romania has achieved Most Favored Nation status with the United States. MFN status greatly reduces the duties charged by the U.S. Customs service upon entry of goods. For most of the Ceausescu era, Romania had MFN status; this was removed in 1988 for political reasons. The United States regards MFN status as a "reward" for countries adopting democratic principles, and changes its policy almost by whim. CURRENCY The Romanian currency is the leu (plural lei). The currency is decimal; 1 leu=100 bani. The leu is currently indexed to a "basket" of international currencies. This valuation, however, is primarily for international valuation purposes. There is no free gold or "hard currency" market in the country. The National Bank of Romania issues currency in denominations of 10, 25, 50 and 100 lei bills and 5, 15, 25, bani, 1 leu, 3 and 5 lei coins. Exchange Rates There is a single official exchange rate for currency which is periodically fixed. The leu does not "float" for exchange purposes within Romania but is established by the government. Fluctuations These rates are adjusted weekly by the National Bank to reflect both fluctuations in values of Western currency and the relative strength of the Romanian economy, and to accomplish other monetary goals, including increasing the current account balance. Since the monetary crises of the late 1970s and early 1980s, the Romanian monetary authorities have been extremely conservative in making adjustments to the leu's valuation. In late 1990, the monetary authorities of Romania will take unprecedented actions to bring their policies closer to a market economy. Among other methods, Romanian central bankers will take steps to erode the influence of the black market by permitting legitimate currency auctions on a free market basis of funds held by commercial enterprises. This should narrow the gap between the "official" rate and the "real" rate and permit more rapid convertibility of the lei. Given Romania's lack of productivity, however, and the disparity between free and controlled market rates, this exercise in courage (and reality) should cause inflationary pressures offering significant opportunities to foreign (hard currency) investors.