While praising Romania's efforts to slash its huge fiscal deficit at a reasonable level, the International Monetary Fund (IMF) warned that regional uncertainties could impede the country's economic growth perspective.
With a fragile economy, deep fiscal imbalances and continuing political stress, Romania may be largely exposed to a contagion risk from the problems of neighboring Hungary.
If fully implemented, the recent austerity measures and structural reforms in public spending of the Romanian government should be enough to achieve both this year's deficit target of 6.8 percent of gross domestic product (GDP) and 2011's target of 4.4 percent and there will be no need for further tax hikes, according to Jeffrey Franks, head of the IMF mission, which examined the progress of the stand-by agreement with Romania.
However, the expert warned that Romania's economy is not in a good shape and any problems in the region, especially in Hungary, will undermine the country's fragile path to recovery.
The recession of Romania would be deeper in 2010 due to the cumulative effect of consumption decline, floods and regional uncertainties, he said. IMF's estimation suggests a 1.5-1.9 percent contraction of Romania's economy in 2010, followed by a return to growth next year, probably in the 2 percent area.
The Romanian economy signaled a recovery in the second term of 2010. But the austerity measures and severe floods may reverse the path, noted Franks.
"Retail sales, industry and lending data all indicate that most likely GDP growth was positive, with the exception of construction activity, which continued to worsen in the second quarter of the year. We expect 0.6 percent economic growth in the second quarter of the year as compared with the previous one," said ING Bank's senior economist Niculaie Alexandru Chidesciuc.
Starting in July the first part of the tough measures taken by the Romanian authorities will be applied. The painful fiscal consolidation package included an increase in value added tax (VAT) from 19 percent to 24 percent and the cut by 25 percent in public servants wages.
Those two measures together with the plight to lay off 74,000 employees in the public sector until the year-end are expected to inhibit consumption not only this year, but in 2011, he continued.
The slow revival of the economy makes Romania's currency vulnerable to any deterioration of investor's sentiment in the region and the leu was already sensibly affected by what happened in Hungary during the last two months.
One of the uncertainty likely to affect Romania's economic outlook now is Hungary's struggle to get funds from the financial markets, as the IMF and European Union (EU) suspended talks with Viktor Orban's government on a review of the 20-billion-euro (26-billion-U.S. dollar) loan after a failure to agree on fiscal targets.
Both Hungary and Romania turned to the IMF and EU aid when hit by the financial crisis and signed stand-by agreements worth 20 billion euros each. However, unlike Romania, Hungary had not drawn funds from the IMF loan since September 2009. It instead turned to financial markets for financing its needs.
But the markets understood that the Hungarian problem is rather local and there is generally no reason to panic.
"Hungarian yields and rates have spiked, but this time there has been no spill-over to Polish and Czech rates and yields, which is a clear indication that the markets for now -- rightly in our view -- see this as a Hungarian rather than a wider central and eastern European (CEE) story," said Lars Christensen, chief analyst at Danske bank.
"If the Hungarian crisis escalates we don't believe that the other CEE markets will remain totally immune, but for now there is no reason to panic," he added.