1 Corey Holland Nina Johnson-Kanu Dare Heisterman Leslie Bergey October 6, 2011 How has joining the European Union affected Romania s trade volume and policies, labor flows, and foreign direct investment? We chose Romania because they are one of the most recent additions to the European Union. In this paper we point out the benefits and potential advantages to Romania by joining the European Union. By the end of this paper we answer the question on whether joining the European Union affected trade volume, labor flows and foreign direct investment in Romania. Romania is located in South-Eastern Europe. It is surrounded by Ukraine, Bulgaria, Yugoslavia, and Moldavia. The country has been around for many centuries dating back to as early as the 1200s. After WWII they were under the control of the Soviet Union until 1989. It officially joined the European Union in 2007. According to the CIA database, The country emerged in 2000 from a punishing three-year recession thanks to strong demand in EU export markets. Domestic consumption and investment have fueled strong GDP growth in recent years, but have led to large current account imbalances. Romania's macroeconomic gains have only recently started to spur creation of a middle class and address Romania's widespread poverty (CIA). A 2010 estimate of
2 the country s GDP is at 254.2 billion and is 48th in the world. The GDP per capita is about 11,600 and the majority of its labor force works in the services department compared to agriculture and industry. Romania s largest trading partners are Italy, Germany, Russia, UK, Turkey and France. Romania joining the EU is a real world example of how lowered trade barriers increase a country s trade volume. It is extremely difficult to separate the effects of integration from other parts of the process, especially without doing some sort of regression analysis. This section will show how data from before and after Romania s accession to the EU backs up economic theories on free trade. Basic trade theory states that when a country has lower barriers to trade in the form of exports and imports, trade volume for this country will increase holding all else constant. This is because as barriers decrease, the cost of products will be lower for the importing country, causing a higher demand for goods. According to J. Pelkmans Economic Implications of Enlargement, trade induced simulations typically show that the applicants as a group gain anywhere from 1.5% to 8% or even 10% of GDP in the short to medium term. In the EU you can see the power of economic integration. While the population of the EU s member states represents only about 7.5% of the world, it accounts for about 16.7% of global exports and 19.1% of global imports in 2008 (Eurostat, Statistical Databases). With Romania joining the EU, protective measures on EU exports and imports were abolished for them as well. This should show an overall increase in trade for Romania. Since the majority of trade for Romania was through EU countries before joining the EU, one would predict an even greater amount of trade between Romania and these countries after joining.
3 Table1.1 shows Romanian imports and exports of goods and services to and from the rest of the world. Table 1.2 is total world imports and exports for goods and services. This data was gathered using the World Trade Organization s statistics database. World exports and imports increased steadily between these 4 years with an average of about 15% per year. Romania s percent increase is only a few percentage points higher than the world s until the year they were accepted into the EU, 2007. During this year the percent change for exports was 7% greater than the previous year s percent change and the percent change for imports was 10% higher. As expected from trade theory, this shows a large growth in Romania s exports and imports for the year as compared to the world in 2007 and Romania in previous years. This could be from many factors other than just being accepted to the EU that year. The EU has certain standards they expect each member to have. The Madrid criteria states that candidate countries must make structural and administrative adjustments so they can better integrate in the union. As such, Romania had to restructure its economy in order to qualify for membership. In 1989, the distribution of employment by sector as a proportion of total employment was 27.9% in agriculture and forestry, 45.1% in industry and construction and 27% in services. In 2005, contrary to developments in other EU countries, employment in agriculture still represented almost 32% of total employment; during the period 1999 2001, this proportion reached approximately 41%. Meanwhile, employment in industry and construction decreased to 29% of total employment in 2005, while there was a 39% rise in the services sector, compared with levels in 1989. Since joining the EU, employment in agriculture declined significantly accounting for 25% of total employment in 2010 while industry and
4 construction increased to almost 32% due to the restructuring of their economy (Ciutacu & Chivu, 2006). In euro, the average monthly net wage of workers in Romania was about 187 in 1989, and fell to 50.40 a month in 1992; it rose again to about 107 in 2000 and to nearly 148 in 2004. In 2005, however, it increased considerably to 199, thus exceeding the level recorded in 1989. The national minimum wage in Romania, expressed in euro, dropped from almost 122 a month in 1989, to nearly 22 a month in 1996, or 0.73 a day, increasing again to about 57 a month in 2004 and to almost 71 in 2005, or 2.36 per day. Presently the minimum monthly wage in Romania is at 157 showing an increase since 2005 (Ciutacu & Chivu, 2006). Although there has been an increase in wages in Romania, it has not come to par with the wages of workers in other European states. We think that this is because of the global recession Romania also experienced. Ciutacu and Chivu state that in Italy alone, the number of Romanian immigrants was estimated to have reached around 800,000 people. Also, an estimated 400,000 Romanian immigrants were thought to be living in Spain, along with many more in countries such as Greece, Ireland, Germany and France. Emigration was largely influenced by the low levels of salaries and wages, rather than by working conditions. Over 50% of emigrants write they were motivated by the prospect of higher incomes, while 20% were attracted by better living conditions. Although emigration has helped to lower Romania s unemployment levels, Ciutacu and Chivu believe it also meant that state finances like the budget, social security contributions, the unemployment fund and the health budget, had to rely on a much reduced number of taxpayers. In contrast, the number of immigrants to Romania is relatively very small. In 2005 and 2006, between
5 10,000 and 15,000 working permits were issued (eurofound.eu as cited in Cuitacu & Chivu, 2006). As a result, the Romanian labor market shrunk and labor shortages became a common occurrence, especially in the construction sector, where there was an estimated shortage of 300,000 workers. This emigration trend may lead to an increase in salaries and wages in the Romanian labor market. Currently, Romania remains the third largest immigrant country to both Germany and Greece and the largest immigrants to Spain, Italy and Hungary. Simini and Silasi (2007) argue that by Romania joining the European Union, they would not see a flight of their labor force to other countries. They use Spain as an example to support their argument claiming that when Spain joined the union they did not see an outward exodus of people to other states in the union. They also say that Romania had already seen emigration of its working population and that it was unlikely it would continue as the sectors in the economy, especially the construction industry, was already experiencing a shortage of workers. The country, they argued, needed more workers and would not be sending workers out. However, this has not been the case. Recent trends show that people continue to emigrate from Romania. Parlevliet and Xenogiani (2008) found that more people continue to leave the country as the wages for labor is very low in the country compared with other countries. These people send back parts of the money they earn abroad to their families still in Romania. Remittances constitute an important source of finance for Romania. They come in through various channels, but mostly those through official bank transactions reach the official statistics. Data from the National Bank of Romania calculate remittances at US $1.7 billion in 2004, and US $4.4 billion in 2005. According to World Bank estimates (World Bank, 2008, as cited in Parlevliet &
6 Xenogiani), the total inflow of remittances was US $4.7 billion in 2005, US $6.7 billion in 2006 and US $6.8 billion in 2007. This makes remittances the second largest external financing source after FDI, accounting for 4.5 per cent of GDP in 2005 (UNDP, 2007, p.102 as cited in Parlevliet & Xenogiani) and 5.5 per cent of GDP in 2006 (World Bank, 2008 as cited in Parlevliet & Xenogiani). World Bank data show that the dollar amount of remittances in billions peaked in 2008 at about $9 billion an since then has seen a decline as of 2010; remittances were calculated to be at about $4 billion (worldbank.org, 2011) Andriecia et al (2011) suggest that the Romanian labor market is showing signs of normal activity. Employment is simultaneously affected by both the variations of the GDP and of labor costs. Hence the labor costs in Romania had led to outward movement to other European states while unemployment rates decreased as a result of this activity. Romanians moved to places with higher labor compensations like Greece and Spain. This increased the labor supply in these countries while decreasing the labor supply in Romania. Consequently unemployment rates in these other countries increased relative to the unemployment rates in Romania. Currently, 11 European Union states have put restrictions on workers from Romania. This they did because of their current economic crises and also because their own country facing increased unemployment rates. According to EU law, a country can impose restrictions on inflow of citizens from another country if they so wish to do so. The countries which have restrictions on labor from Romania include Malta, United Kingdom, Netherland and others. Spain imposed a temporary restriction citing its growing unemployment rates as the reason for this (Kelly, 2011).
7 Ciutacu and Chivu (2006) wrote that the country s unemployment rate had increased from 3% in 1991 to 11.8% in 1999, subsequently falling to 6.3% in 2004. Presently, however, the unemployment rate in Romania is 7.3% which is less than that of other EU states like Portugal, Greece, Spain and others (Eurostat, 2011). Data from the years prior to the ascension show that the unemployment rate declined, in spite of the economic restructuring process that was taking place which had also been followed by collective redundancies. However, the number of employed people did not increase mostly due to the fact that more than two million active people emigrated from the country according to the official statistics that they got for that period, although trade unions in Romania argue that it is higher at about 2.5 million people. We can say that Romania has benefited from joining the European Union, because now the Romanian worker has access to a larger geographic space to gain employment in. The country has also seen a decline in the unemployment rate, and now workers who chose to remain in Romania have seen higher wages. Romania also has a diverse financial sector in its country. It has experienced a number of changes in many different areas of this sector since joining the European Union. Some of the consequences of joining the union may have been unexpected and unintended. Indicators are an important way to examine a country s financial sector. One of these indicators is a country s foreign direct investment. Foreign direct investment, or FDI, is the net inflows into a country s domestic infrastructure from other countries. In order for an investment to be considered FDI, it must be at least ten percent of the voting
8 stock of a company or facility. This is important because it has to be a substantial investment into that particular area. This graph from figure 1.2 is Romania s foreign direct investment from 1990-2010 in United States dollars. Romania s inflows were relatively low from the 90 s until the 2000 s. Since 2003 s FDI skyrocketed, this may be because in 2002, The Copenhagen European Council agrees that 10 of the candidate countries (Cyprus, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia and Slovenia) can join the EU on 1 May 2004. (Europa). This put a positive spotlight on Romania and investors around the EU saw it a prime place to invest their money into. In 2007, Romania officially joined the EU. When it joined it chose not to adopt the euro like many other countries. After it joined, its FDI increased drastically as expected. According to Stefaan Pauwels and Lorena Ionit of the Economic analysis from the European Commission s Directorate-General for Economic and Financial Affairs, Over the past four years, Romania has benefited from record FDI inflows, thanks to macroeconomic stabilization, strong GDP growth, large-scale privatizations and the prospect of EU membership. As previously mentioned, foreign direct investment is crucial to Romania s booming economy. Illustrated graph 1.1 is the breakdown of the diverse sectors that rely on FDI stocks. During the years when Romania s FDI was expanding exponentially, manufacturing and telecommunications divisions accounted for the most inward flow of FDI stock. Ironically enough, these two divisions happen to rely on cheap and inexpensive labor to keep operating costs low.
9 Romania has many things that make it an attractive destination for investors. However, according to current data, Romania may become a less attractive area for investors to invest their money. The article by Stefaan Pauwels and Lorena Ionit try to explain that point in further detail, successive wage negotiations have driven up unit labor cost, affecting Romania's international competitiveness, especially in light industry, in favor of low-cost Asian countries. One of the things that made Romania such an eye-catching location to invest in was the fact that it had relatively cheap labor compared to the rest of the European Union. The more its economy began to grow and advance, wage rate in the country increased which means businesses became more expensive to run. This means investors are less likely to invest compared to countries with cheaper labor. Having a booming economy can be counter-productive sometimes. The article was written in 2008 and it seemed to make a stark and very accurate prediction on the current and future trend of Romania. Since 2008, Romania has seen a drastic decrease in its FDI inflows into the nation. It has dropped to almost pre-2003 levels. This could be because of many reasons. One cause may be that many European countries are struggling financially and are not investing as much as before. Before the world recession hit, Romania s FDI was very heavily dependent on the EU. About 80% of its FDI stock came from EU countries. About 50% came from Austria, the Netherlands and Germany. This heavy reliance seems to have backfired on the Romanians during the current economic crises. The real interest rate is the lending interest rate adjusted for inflation as measured by a GDP deflator. Real interest rate has fluctuated continuously for the past two decades.
10 However, in 2007 the real interest rate was 0.3 just as the Foreign Direct Investment in the country was peaking. Since then, the FDI has sunk and in doing so, the real interest rate as drastically increased to 10.1 in 2009 and 2010. Real interest rates increasing are good because investors can expect a higher return on the money they invest. The government seems to be taking the appropriate measures to get investors to invest (World Bank). The FDI and real interest rate are two key indicators of how an economy is doing financially. If Romania would like continuing on the path to recovery, these will be two main factors that they need to focus on. Since joining the European Union, Romania has faced positive and negative effects. Lowering the trade barriers have made them more susceptible to high economic booms and harsh economic recessions. The observations of the EU s impact on Romania s trade volume, migration of labor, and foreign direct investment provides recommendations for the future of Romania. By applying basic economic trade theories, we can expect what changes will impact its future and in what ways. Romania should maintain its own monetary policy and avoid adopting the euro as its common currency. Adopting the euro could affect Romania s volume of trade in that the euro might depreciate relative to other EU members. Trade would lessen, as it would be more costly to import products from Romania. Monetary policy would be lost and Romania would have no way to fluctuate its exchange rates or interest rates. This lack of power over its monetary policy impacts labor migration and foreign direct investment. We observed earlier that wages in Romania increased as more skilled labor migrated out of the country. Adopting the euro would eliminate this wage increase as less capital would be invested in the country.
11 Foreigners wouldn t find Romania as economically appealing, skilled labor would lose their wage increase, and trade volume would be reduced.
Table 1.1 12 Reporter Flow Indicator Partner 2005 2006 2007 2008 Romania Exports Goods+Services World 32755 39351 49876 62337 Romania Imports Goods+Services World 45947 57964 79068 95784 Percent Change Exports 20% 27% 25% Percent Change Imports 26% 36% 21% Table 1.2 Reporter Flow Indicator Partner 2005 2006 2007 2008 14943 17411 19962 World Exports Goods+Services World 12984900 900 100 400 15095 17475 20146 World Imports Goods+Services World 13227900 500 800 100 Percent Change Exports 15% 17% 15% Percent Change Imports 14% 16% 15%
13 (Units expressed as US $ at current prices (millions)) Graph 1.1 Graph 1.2
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