By Nicolae Marinescu
The expectations about transition economies were extremely high after the fall of the communist regime. Still, foreign direct investment (FDI) flows to Central and Eastern European countries turned out rather low. Annual inflows in the region increased progressively in the last few years and resisted the global downturn of FDI in 2001-2002, reaching a record 29 billion USD in 2002. Despite this fact, the total stock of FDI in Central and Eastern Europe (about 188 billion USD) represents less than 3 per cent of global FDI inflows.
FDI in the region is mainly concentrated in four countries: Poland (24%), the Czech Republic (20%), Hungary (13%) and Russia (12%), together accounting for two-thirds of total inward FDI stock in Central and Eastern Europe. These four main recipient countries started privatisation earlier and at a faster pace than Romania, being now at a more advanced stage in the process of implementing economic reforms.
Romania accounts for a modest share of 5 per cent of the region’s FDI inflows, total FDI stock reaching only 10 billion USD in September 2003, which is roughly the same figure as that of FDI inflows in Poland just for the peak year 2000 (!).
When we consider total FDI stock in relation to the size of Central and Eastern European countries, Romania occupies the last position in the classification of FDI inflows / capita among candidate countries for the European Union.
Figure 1. FDI stock / GDP in selected Central and Eastern European countries. Source: Adapted from Newton Holding, 2003.
Dynamic and Structural Aspects of FDI in Romania
Due to the low level of FDI inflows to the country, the positive impact of FDI on Romania’s economic performance has been very limited. Overall FDI flows as a share of Romanian GDP represent 20.5 per cent, a rather small figure compared to neighbouring countries (see figure 1).
The evolution of FDI in Romania has been very slow in the first years of transition and it picked up only in 1997, when annual FDI inflows exceeded for the first time the 1 bn. USD mark (see figure 2). Romania registered a record of 2 bn. USD in FDI flows in 1998, with the privatisation of Romtelecom, subsequently decreasing to around 1 bn. USD in the following years.
Figure 2. The evolution of FDI inflows in Romania, 1991 – 2002. Source: Adapted from UNCTAD and the Romanian National Bank, 2003.
In the distribution by sectors, industry has always attracted an important share of FDI (see figure 3). Apart from the motor vehicles industry, which gained importance in the last years, the main concentration has been registered in the food, beverages and tobacco industry.
Figure 3. Distribution of FDI by sectors, 1991 – 2002. Source: National Trade Register Office, 2003.
The small presence of FDI in high-tech sectors (electronics for instance, with a share of only 2 per cent) shows that investors were more interested in resource-intensive than in technology-intensive industries. The share of services increased in recent years, especially transport, telecommunications and business services gaining rapidly in importance.
By geographic composition, the FDI stock in Romania has been constantly dominated by investors from the European Union, with about 60 per cent of the total. Dutch companies hold the first position, followed by German and American ones (see figure 4).
Figure 4. Distribution of FDI by country of origin, 1991-2002. Source: National Trade Register Office, 2003.
With just over 100 million USD invested in some 750 firms and a share of 1.17 per cent of total FDI, Sweden ranks only 19th in the hierarchy of foreign investors in Romania. Top companies from Sweden which have already invested in greenfield projects or acquired local firms include Electrolux, Autoliv, ABB and Ericsson, while other companies developed only co-operation agreements or set up marketing and trading activities in Romania.
Some Explanations for the Low Level of FDI in Romania
Despite the large size of the market (almost 22 million people), access to natural resources, well-qualified workforce available at low cost and with good language skills, industrial diversity and privatisation opportunities, FDI inflows to Romania have remained surprisingly low.
The potential advantages for attracting FDI have been overshadowed by negative elements, like difficulties encountered in the functioning of the market economy, economic decline, mistakes made in conducting reforms, legislative and institutional instability, high rate of inflation and escalation of bureaucracy and corruption. The unstable economic performance and multiple delays of necessary reforms provoked mistrust among foreign investors. Some decreases in country rating by international agencies enforced the negative perception of the Romanian business climate.
The most frequent cited reason for the low level of FDI in Romania is the dazzling and contradictory legislative and institutional framework, subject to many changes. Foreign investors have been practically precluded in making long-term profitability estimations and adopted a wait-and-see approach, especially as property rights have not been well-clarified for a long time.
One of the significant moments in the volatile evolution of the legislative framework concerning FDI has been the abolition in 1999 of all the incentives granted shortly before by different laws. A simple comparison of incentives for foreign investors in Central and Eastern European countries, reveals that Romania found itself constantly in a clearly unfavourable position.
Romania’s potential for receiving FDI has been insufficiently promoted at international level. The institution in charge set up in 1991, called the Romanian Development Agency, has not been awarded the necessary authority at the beginning, and immediately after 1997 its activity ceased. This has led in the first phase to limited efficiency in attracting foreign investment and in the second phase to deterring potential investors by creating a vacuum of authority and confusion.
The high level of fiscal obligations as well as the lack of transparency given by the excessive number of taxes and the troubling system of collecting them also represented a disturbing factor for foreign investors.
Another element with a strong negative impact on attracting FDI has been the slow pace of privatisation. The role of the State Ownership Fund, whose operations were not transparent and business-friendly and Romania’s late offer for the privatisation of big companies (in fact, after 1997), when the interest of multinationals for the region decreased or had already been satisfied, led to the loss of important opportunities.
The negative attitude of managers and labour unions representing state-owned enterprises towards privatisation with foreign involvement and the concluding of contracts under pressure of timely and financial nature or taking into account other criteria than purely economic ones made many of these contracts disadvantageous from the Romanian point of view.
The avoidance of tackling corruption in an explicit manner has led to the widespread expansion of the “grey economy” and of inter-firm arrangements at preferential prices. As a result, governmental revenues have been deprived by significant funds and firms functioning by abiding the legal conditions confronted themselves with an unfair situation.
The list of factors that deterred FDI in Romania can be continued long enough, but there is an important one, which is necessary to be remembered here. It is the lack of a clear and coherent action path in governmental policy concerning FDI, which corroborated to generalised corruption at all levels of public administration, has had a devastating effect. The negative position of political decision-makers can be explained mainly by the strong influence of domestic pressure groups, which tried to protect their economic interests, believing that they cannot compete successfully with foreign firms in a transparent and open business environment.
Solutions for Improving the Romanian Investment Climate
In order to deal with the most troublesome aspect concerning foreign investors in Romania, that is the legislative aspect, a strong improvement of the design, implementation and application of laws is needed. Above all, the legislative framework governing FDI definitely requires stability, because profit estimations depend very much on existing and maintaining legal regulations. A step in this direction has already been made with the adoption of the Law no. 332/2001 concerning direct investment, which has remained unchanged until the present day.
The increase of transparency and the more effective fight against corruption, which should generate sure results, are also top priorities for establishing confidence in the Romanian business environment. The ideal outcome is the creation of a level playing field for all firms operating on the market (private as well as state-owned companies and foreign investors).
A related aspect to work on is the reform of public administration. The efficiency of the system and the trust put into the administrative bodies of the state are fundamental and constitute the preconditions for the reduction of bureaucracy with all its negative and costly consequences. The consolidation of high moral standards among public administration employees at all levels can be attempted in two basic ways: imposing severe penalties and payment of higher wages.
The reduction of fiscal obligations is another measure needed to encourage FDI in Romania. At present, investors are plagued with high taxes on wages, with negative consequences for the rise of wages and for the labour market as a whole, by nurturing unregulated work and the underground economy.
A competitive business environment, in which foreign companies can establish subcontracting arrangements with local firms, implies also the stimulation of the entrepreneurial spirit, which has been choked off in Romania before 1989. The simplification of procedures and necessary documents has begun in 2001 by grouping different formalities under a unique office.
In the regional context, in which countries “battle” against each other for attracting transnational companies within their borders so as to extract the benefits from the “packages” they transfer (capital, technology, management practices, to name just a few), a proactive, coherent policy for FDI is needed in Romania. This policy should include industrial targeting to encourage the formation of clusters and the granting of adequate incentives, comparable to the ones offered in neighbouring countries. It should also be directed towards strategic investors and involve a more flexible approach in negotiations with investors.
Along with such policy-making goes a more resolute activity of investment promotion. Essential in this respect will be the efficiency of the new Romanian Agency for Foreign Investment, set up in 2002. Until now, its results have been largely unsatisfactorily, especially due to shortage of funds. After one year of activity, the agency monitors only 13 investment projects with a total value of 720 million USD. But, as FDI activity picked up, approaching 1.3 bn. USD for 2003, investing money in the promotion activity seems definitely necessary, as different studies as well as the regional experience have shown a positive correlation to the level of FDI inflows.
Finally, the speeding up of the privatisation process, together with the restructuring or closing down of large loss-making state-owned enterprises are absolutely vital for consolidating a sound competitive environment. These developments would also constitute a positive sign given to the foreign business community and generate a significant improvement in the perception of the Romanian investment climate.
Specialists in the field consider that Romania’s potential to attract FDI has been undervalued to the present day and its advantages the least exploited by transnational companies among countries in the region.
The relatively high economic growth registered by Romania since 2000, together with the continuous decrease of inflation in the last years have brought back the hope of attracting more FDI in the period to come.
Privatisation is in full swing again and there are significant signs of increasing investors’ interest, so that the picture is likely to change in the near future. The privatisation of large companies like the oil-giant Petrom and BCR, Romania’s most important bank, scheduled for 2004, make us believe that Romania hasn’t reached its peak in FDI inflows yet. This view is enforced by the fact that major public utilities are still to be privatised.
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