MEGA, the XXIII-rd edition: ”The economy in 2022: from recovery to stagflation?”

Beyond the transitory arithmetic effects, we believe there are some risks of long-term decline in growth. While in 2001-2010 the GDP increased on average by 5.2% annually, in 2011-2020 it grew by only 2.9%. The empiric results indicate some real risks of persistently modest or even declining GDP growth rates. In the first decade of growth, the GDP was mostly driven by gains in total productivity, which more than compensated the decrease in the employment rate. In 2011-2020, however, the efficiency gains were much more modest. The loss of momentum is largely determined by the prevalence of an unfriendly business climate, by the waste of resources in the state-owned enterprises and by the relatively limited capacity of firms to innovate. Removing certain of these deficiencies has already been set as a priority by the Government. We believe that greater emphasis needs to be placed on the ability of firms to implement innovations in marketing, organizational management, and technology. At the same time, the persisting emigration, particularly among youth, will reduce the labor supply and will place additional constraints on the potential growth.

The combination of an anemic growth and a double-digit inflation – stagflation – represents a very dangerous mix, particularly from a social point of view. A major risk is the exacerbation of inequalities caused by higher prices for food and their impact on the population with the lowest income. For vulnerable population, the perceived personal inflation will be higher than the average. The uncertainty of income, combined with the pressing rise in prices, can trigger social turmoil with political consequences. In the short run, measures to support the affected population remain necessary and in the mid-run a transition towards a more redistributive taxation system will be needed.

Positive signals in the demography of enterprises, albeit weak, are good news. After long years when ‘natural growth’ of firms was negative, in 2021 the number of newly created firms exceeded the number of closed down firms. For now, a clear-cut interpretation of this statistical fact is quite difficult. Is this a structural change? Or maybe this is one of the consequences of COVID-19 pandemic and of the related economic crisis during which only ‘super hero’ firms survived? Or maybe, why not, this is an improvement in economic sentiment of firms, particularly in the context of increasing investments funded from own resources registered in 2021? The Government certainly needs to stimulate not just the creation of new businesses, but also the comeback of those who want to take new risks after failing, the continued growth of SMEs, including in terms of economic dimension, deepening of their internationalization, development of managers’ competences, and integration of local firms in the value chains of big foreign investors.

The energy crisis created an extreme financial-economic context. It is about the negative impact on firms and particularly about the impact on households and public administration. The increased prices for gas, electricity and heating, if permanent, risk to hit dramatically household income and government revenue and to trigger suboptimal adaptation patters, such as the accumulation of arrears, transition to primitive sources of energy (stoves with firewood, which is sometimes cut illegally, pressed dung), and emigration. Thus, implementing the big projects for connecting the national power system to the European one becomes more urgent. At the same time, this raises new topics of strategic interest, including the need to substantially increase the domestic energy production capacity and possibly a restructuring of consumption by shifting to a larger share of electricity.

We note a clear decoupling of the economic growth from the labor market. After the contraction of the activity driven by the restrictions in 2020, the employment growth in 2021 was weak, but recorded somewhat better rates in the case of men, while employment among women stagnated. On the one hand, there is the risk that gender inequalities, which are already quite high, will worsen further. On the other hand, given the increase in the energy price and the general price hikes, this adds pressure on the national public budget. Although the Governmental anti-crisis strategy clearly gives preference to the subsidies provided to the population, in the long run, this solution is not sustainable because it risks to destabilize strongly the budgetary system. A systemic response to the crisis should come in the form of a resilience strategy, including policies aimed to increase employment and labor productivity.

Risks for the national public budget can intensify in 2022. The Government has already committed a substantial deficit for 2022 (6% of the GDP), which is subject to a lot of downside risks. The gas prices could further rise, which will result in higher prices in the entire energy system and beyond it, thus generating new expectations regarding higher compensations for households and fueling the already strong inflationary expectations. Even private firms and public institutions (hospitals, schools) could ask for compensations or other measures to respond to raising energy prices (for example, price capping), which could have additional budgetary implications. Although there are some positive forecasts, the perspectives of the new waves of COVID-19 pandemic and their implications on the healthcare system are still unclear, particularly in the context of an extremely low vaccination rate in the Republic of Moldova.

We believe that a better coordination of macroeconomic policies is both possible and necessary. The officials’ statements about the results of 2021 and prospects for 2022 give the impression that the Government and the National Bank of Moldova have different visions about the economic context and the immediate challenges that require a response and about the right tools to address them. Even if the two main pillars of macroeconomic policy – monetary and fiscal – may compete in order to achieve certain immediate institutional or political objectives, in the long run, the strategic objectives and the policy tools should be reconciled. At the same time, the declining growth rates of economic potential highlights the need to strengthen the structural components of the macroeconomic policy – strengthening the independent regulators, ensuring fair competition, removing and preventing monopolist arrangements.

A stronger structural policy for stimulating supply will allow a sustainable correction of external imbalances. Besides the spectacular acceleration of inflation, another notable development of 2021 was the worsening of the current account to almost -14% of GDP. For 2022, we forecast that even if a correction of the indicator takes place (to about -12%), the risks for the current account will stay high on the background of a persistent inflation and a relatively modest economic growth. We anticipate the continuation of the increase in personal remittances, as well as in domestic revenues. Coupled with an increased ratio between the domestic prices and the import prices, this will support the demand for imported goods to a larger extent than for domestic ones. The optimistic expectations about increased funding by development partners and foreign direct investment (FDI) are yet to materialize in specific projects.

A significant risk is the fast growth of state indebtedness. The Government undertook financial obligations towards the population, but it has also set ambitious targets for infrastructure projects. These projects (including those related to roads, water supply systems, energetic interconnection) will clearly have a major economic return, but it will come with a certain delay, which may create, at least temporary, the need to increase the degree of indebtedness. From this point of view, it is extremely important not only to manage the public debt carefully, but also to eliminate the sources of chronic waste (such as state enterprises, poorly managed infrastructure projects and state assets, excessive staff, etc.) from the public finance system.

Speaking about public finance, we believe that effective financial decentralization should be a priority on the public agenda. In 2021, transfers from the state budget ensured three quarters of the total revenue of the budgets of administrative-territorial units. The Government committed to a model of governance that focuses on getting closer to people. This involves a ‘more optimal’ model of organizing the local public finances and of implementing them in the national system, which would ensure an effective rather than a formal decentralization. Beyond more generous shares from the general state taxes, this involves more powers attributed to LPAs in the local economic development, more respect for local autonomy and an administrative-territorial reorganization. The current administrative-territorial structure is highly fragmented, various local public authorities of both levels being unable to cover their administrative costs, let alone to collect resources for the development of the communities they represent. 

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This document is published by the Independent Think-Tank “Expert-Grup” as part of the project “Inform, Empower, Act! Civil Society for good budgetary governance in Moldova” co-funded by the European Union and Konrad Adenauer Stiftung e.V. The contents of this document are the sole responsibility of „Expert-Grup” Independent Think-Tank and can under no circumstances be regarded as reflecting the position of the donors.