At the invitation of Casino Inside magazine, I offer you an analysis of Romania’s economic situation, through a fiscal key, but taking into account 6 directions for discussion: Inflation, VAT, Overcharging, Income tax vs. Income Tax, Deficits and Borrowing.
About Inflation
Inflation in Romania is 15.1% in January 2023 and the NBR has frozen the monetary policy interest rate at 7%.
Inflation is a form of taxation, a very dirty one. The only beneficiary of inflation is the state, which is also the main “culprit”, as the huge deficit creates a huge demand for financing… Through inflation, the state depreciates its obligations (pensions, salaries) and increases its revenues, especially from VAT. In addition, the state was last year also the main beneficiary of price increases for gas and, to a lesser extent, electricity, thanks to increased revenues from royalties and the 80% surcharge on revenues earned by producers. Basically, as we pointed out in an analysis published last year, the state received directly (royalties, surcharges) and indirectly (dividends) 95% of the price increase, creating a serious conflict of interest between the state (the beneficiary of inflation), on the one hand, and companies and citizens (who have borne and continue to bear the high cost of inflation), on the other.
The NBR’s decision to keep the monetary policy interest rate is correct, however, given that inflation appears to have moderated significantly, in January 2023 compared to December 2022, at just 0.3%. In addition, a significant increase in interest rates would have overburdened the economy and the citizens who have to pay bank loans. The NBR seems to have tried a responsible compromise between its main goal (price stability, low inflation) and the interests of companies and citizens to have more or less bearable interest rates. What is more worrying, however, is that the euro/leu exchange rate remains very stable, which – in real terms – makes the leu appreciate significantly against the euro, which leads to the worsening of another deficit, that of the trade balance. A stronger leu is not good news at all, making domestic production and exports more expensive but imports cheaper.
If inflation in 2023 is significantly lower than in 2022 (which seems to be the case both due to the international context and the base effect – we are referring to already increased prices), the first one who will have major problems will be the state (the budget was built on an inflation of 9.6%) and then businesses and citizens, and it is very likely that other taxes will increase…
About VAT
Rumors have started to appear in the public space that we would rather waive the Value Added Tax because, anyway, we collect it very hardly from taxpayers and we register annual losses of billions from its non-collection.
We can’t give up VAT, but we can modernize the ANAF (a process that has started but is going extremely slowly) to improve collection and reduce the huge VAT GAP (35.7% of the theoretically calculable tax, i.e. €7.6 billion less money lost to the budget each year). By comparison, the EU average is 9%, with Bulgaria even managing a fabulous 6.3%.
The Commission has recently put forward wide-ranging changes to the administration of VAT in the so-called VIDA (Future of VAT in the Digital Age) project, a package which, if approved, could lead to the generalization of e-invoicing as a system for issuing invoices from the application managed by the tax administration, as well as unified reporting standards (DRR) in all European countries. But these measures will only reduce fraud, not eliminate it.
Much more important than VIDA, in my opinion, is the adoption of a definitive VAT system based on reverse charge, especially since the proposal that the definitive VAT system should be based on fractioned payments is already dead, no longer being discussed. It is essential that policy-makers in the Member States understand that the transitional regime, which has been in place for over 2 decades, is an invitation to fraud, and that they have an obligation to citizens to implement solutions that will make it no longer so easy to steal tens of billions of euros annually, money paid as VAT by all EU citizens!
The definitive reverse charge regime would not only completely eliminate carousel fraud – by far the most damaging in the EU, but would also reduce immensely the administration costs for the state, but also the (by no means small!) compliance costs for taxpayers and also the financing costs for businesses, especially exporters or companies making investments, where VAT has to be pre-financed until refund. Let’s also say that reverse charge would eliminate VAT refunds, which would free up more than 50% of the tax inspection force (now working on refund checks). These people, some of whom are very good specialists, could be used to carry out checks in other areas where there is a risk of non-payment of tax due, but also to improve guidance to taxpayers.
Some say that reverse charge would mean the end of VAT, which I disagree with. The only change would be to effectively eliminate the cash-flow generated by the current system, i.e. the amounts paid by the buyer to the seller, by the seller to the budget, which then flow back from the budget to the buyer. If money stops circulating in B2B, there will be nothing left to steal there. The state will be able to focus on collecting from end sellers in B2C, which is much easier to manage.
About Overcharging
The Ciucă government has become a champion of overcharging.
We overcharge not only vice, but also part-time contracts… Unfortunately, lately, the approach to taxation seems rather chaotic, not at all confident that the government knows what to do. The law is an advantage for some (the “specials” with all kinds of tax breaks) and a nightmare for others (overtaxed). Unfortunately, the total tax burden (including compulsory contributions) depends far too much on HOW you earn and not just on HOW much you earn, and this destroys the glue that makes a population a nation – solidarity. Until it is accepted that the tax burden should be proportionate to the size of earnings and the basis for calculating contributions capped at a reasonable level, we will continue to have all kinds of this nonsense.
Income tax vs corporation tax
This new “madness” thrown on the market at the beginning of the year proposes taxing income and not profits.
The idea is nothing new… Let’s not forget that the Tudose Government’s Government Programme (approved by Parliament!) included, no more and no less, the abolition of the corporate tax and its replacement with a turnover tax. Fortunately, the measure, which took Romania out of the EU (the Parent/Subsidiary Directive and the others being applicable only to companies paying corporate tax!), but also off the map of any serious investor (the double taxation conventions were no longer applicable either), was not applied. The proposal later came back as a kind of additional tax for companies with a turnover of more than €100 million, a so-called “solidarity tax” (a term politicians seem to love). But now, under the same name, it looks like a minimum tax (16% on profits, but no less than 1% of turnover) that will only affect companies with a profit rate of less than 6% of turnover.
Who are these companies? First, the big loss-making state-owned companies (CEO, CFR, TAROM, etc). Secondly, the big exporters, especially companies such as Dacia, Ford, but also many car component manufacturers that have factories in Romania, factories that – being what we call “manufacturing units” – cannot have margins of more than 6% without running counter to the transfer pricing legislation itself (which many talk about, but nobody seems to understand).
In addition, another question needs to be asked: why €100 million, how did they calculate this threshold? I haven’t seen any studies on this…
How can you justify a minimum tax for a company with a turnover of €101 million and not for a direct competitor with only €99 million? Isn’t this a market distortion? How can a state sanction those who produce and sell more? Don’t we want growth?
About deficits
The current account deficit increased by 52.07% in 2022, compared to the previous year. It recorded a deficit of €26.5 billion, compared to €17.4 billion in 2021! That’s what the NBR told us on Monday 13 February. The trade balance deficit in 2022 was over 34 billion euros (source: NSI), 44% higher than in 2021, i.e. 10.4 billion higher than last year! It’s creepy!
Even more frightening is that the financing of these deficits depends fundamentally on EU funds, funds that seem to be blocked again, because the privileged deep states will not give up on the privileges they have generously given themselves in recent years…
As painful as it sounds, it seems that the only chance is a total stalemate, forcing us to rebuild the budget and tax system on a new basis. The real economy, the companies that produce and – some even export – are currently bearing the brunt. However, there is a risk that some of the measures announced, such as the turnover tax, could also affect them.
On an individual level, we must all be careful not to take on obligations that we can no longer carry.
About loans
The state, under the current Ministry of Finance, is borrowing at the highest interest rates on the market, reaching astonishing records: last year it borrowed 146.5 billion lei from banks and population plus money from the PNRR, and this year (2023) it is estimated that the state will borrow 160 billion lei, of which 55 billion already borrowed in January. We borrow at 7% interest per year, double the EU average. What’s holding us up and how come we haven’t collapsed yet?
As I said above, we are heading for disaster rather quickly. It seems that our decision-makers have learnt nothing from the lessons of the past (2010) or from what happened to others (Greece). Now the direction is the same as in 2007 – 2009, exploding deficits (budget, trade, balance of payments). And then we had no pandemics, no war, so now the situation is much more dangerous. In addition, it seems that the budget deficit – as huge as it is – is underestimated, mainly due to the reduced contribution of inflation to budget revenue growth, but also to the massive drop in gas prices (of which, let’s not forget, 95% went to the budget).
What’s holding us up? Just the fact that the government can still borrow, even at huge costs. The major risk, however, is a downgrade of the country’s rating to junk, a risk that is becoming greater and greater, especially if the PNRR is blocked.
