Change the Menu: A Heterodox Reconsideration of Romania’s Development Model

3 Nov

The crisis of the Romanian economy is the result of a combination of domestic structural weaknesses and the spillover effects of the European crisis. Over the course of the past decade Romanian governments have consolidated a model of development that was associated with a remarkable boom before 2008. However, the post-Lehman financial crisis and the subsequent Great Recession have highlighted its limitations. Since 2008, systemic disruptions in the cross-border flows of financial capital, the shrinking of multinational manufacturing investment and the volatility of external demand show that business as usual is simply not sustainable. Far from spurring the country’s economic potential, the fiscal consolidation and structural reforms adopted since 2010 have failed to secure a return to growth. Moreover, even during the boom years Romania’s development model led to a form of non-inclusive growth prone to generating dangerous external imbalances. What is more, it was unable to generate enough jobs and significantly improve the country’s long-term external competitiveness. This bleak picture calls for a reassessment of the model. While major resource constraints limit macroeconomic policy choices, three revisions stand out as practicable and desirable: state capacity, industrial policy and public goods.

First, given the unease of sovereign bond markets and the enduring relevance of counter-cyclical fiscal interventions, the main priority should be boosting the state’s fiscal firepower through a major expansion of its tax and EU funds collection capabilities. Romania’s low-rate but complex tax system ridden with massive tax evasion and largely privatized and amateurish EU funds-attracting capabilities have not done well. A superior course would be significant investments in tax inspectorates, the adoption of a progressive reform of existing tax regulations and the establishment of a large government agency specialized in EU funds and whose performance is measured against pre-established benchmarks.

Second, the government could benefit from the aggressive use of the modern industrial policy options allowed within the EU and WTO frameworks. The main objective of these policies should be the consolidation of the export sector and the nudging of the economy towards high value added sectors. Against conventional wisdom, the ongoing crisis and the export-based growth of many developing countries has demonstrated that manufacturing-oriented economies fare much better than service-dominated ones. This has underscored the importance of creative reindustrialization strategies that are consistent with an open economy. This policy shift could entail such measures as the establishment of a state development bank, the expansion of state funding for research with industrial applications, middle and advanced level vocational education in sync with industrial development targets, state aid targeted at middle and high technology firms, incentives for industrial clusters and employer-union coordination mechanisms. In terms of procedure, the Asian experience with industrial policy experiments confined to certain regions could replace the standard “best practices” approach.

Finally, research shows that state investment in public goods is a prerequisite of sustainable development. So far, Romania’s development model has tended to see transportation infrastructure and legal institutions as the main endowment factors of a competitive market economy. This needs to change. The success stories of developmental breakthroughs under globalization make it clear that well-organized industrial relations and smart public investments in education, health and the reduction of inequality and poverty are not self-defeating populist policies, but quintessential ingredients for breaking out of the low-wage and low-innovation traps of the kind that Romania finds itself locked in today.

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