1. EXECUTIVE SUMMARY
After two years of increased political and economic instability, Moldova has the chance to return to the path of reforms that begun in 2009 and culminated with the signing of the Association Agreement and the Deep and Comprehensive Free Trade Area (DCFTA) with the European Union.
President Maia Sandu started her term with high credibility among both the electorate and the country’s foreign development partners. But the challenges ahead are immense as well. Sandu will try to force early elections in 2021.
Moldova’s economy plunged more than expected in 2020 and its expected recovery through 2021 remains problematic.
Budget and debt outlook
The complicated political developments in Moldova significantly impaired the authorities’ response to the coronavirus crisis in terms of fiscal stimulus and social support.
The 2021 general government budget envisages revenues of MDL66.9bln (€3.3bn, 30.2% of GDP), expenditures of MDL81.3bln (36.7% of GDP) and a deficit of MDL14.4bln (6.5% of GDP). The budget execution remains constrained by the country's financing capacity, which heavily relies on development partners, mainly the EU and International Monetary Fund (IMF).
Real economy outlook
Foreign investors are attracted to Moldova because of the low cost of labour, but face a difficult environment due to corruption, political uncertainty and the rigid labour code.
Moldova has a stock market but it is small and relatively illiquid.
2. POLITICAL OUTLOOK
Maia Sandu won the presidential elections in November 2020 and this opened a window of opportunity for a radical change of the country’s political landscape.
The era when Moldova was controlled by rivals and sometimes behind-the-scenes allies President Igor Dodon and oligarch Vlad Plahotnuic could now be coming to an end — but it’s already clear this won’t happen without a fight.
The aim of Sandu and her party is to force a snap general election that she anticipates would be won by the pro-EU parties that backed her for the presidency. This would create room for a genuine pro-EU regime dedicated to economic development through free market reforms and functioning justice. The resignation of PM Ion Chicu, Dodon's former adviser, at the end of December paves the way to early elections but the pro-Russian former president will retain influential through his Socialist Party (PSRM) that is a major force in the current parliament.
As of early 2021, it was still unclear when or if early elections would be called after the Constitutional Court ruled Sandu must nominate a replacement for Chicu rather than attempting to dissolve parliament.
For the time being the lack of a robust pro-EU majority in parliament makes Sandu's path uncertain and dependant on support from the country’s foreign development partners.
The architecture of the new, emerging majority in the country and the support received from foreign partners are key elements for putting Moldova on track for economic development in 2021 and the years to come.
Winning the election in November 2020 was only the beginning. Firstly, Sandu needs a government backed by a transparent majority in parliament. Given the structure of the parliament that at this moment is highly diverse and not particularly stable, this means she needs early elections — which will again bring some uncertainty.
It is not going to be a straightforward process, but the Constitutional Court’s decision in December 2020 (suspending controversial bills passed by Dodon) shows that some lessons have been learned from the political crisis in the summer of 2019 when Moldova’s foreign partners had to step in and facilitate an agreement.
The support the two main pro-EU parties — Sandu’s Party of Action and Solidarity (PAS) and Dignity and Truth (PPDA) — enjoy among the electorate is robust but will not allow the formation of a ruling coalition without the support of other parties. The Democrat Party led by former prime minister Pavel Filip is the most likely candidate. But the populist Our Party led by Renato Usatii — third placed in the recent presidential election — will remain a key player somewhere between Dodon’s PSRM and the pro-EU bloc.
3. MACROECONOMIC OUTLOOK
Moldova’s seasonally adjusted GDP further decreased by 1.1% in the third quarter of 2020 compared to Q2, in contrast to the recovery demonstrated by most global economies after the deep plunge undergone during the first wave of the coronavirus pandemic in Q2.
Moldova’s economy thus decreased in q/q terms for five consecutive quarters and the weak economic support provided by the government to the real sector does not give much hope for quick recovery. Previously, the country’s GDP had plunged by 7% q/q in Q2. In annual terms, Moldova’s GDP collapsed by 14% y/y in Q2 and by nearly 10% y/y in Q3.
The overall annual decline for the first nine months of the year was 9.2% y/y — which makes International Monetary Fund’s (IMF’s) forecast for a 4.5% contraction rather unrealistic.
The IMF forecast Moldova's economy would shrink by 4.5% in 2020 but rise by 4.1% in 2021. The Fund's October projection is thus significantly more optimistic than the World Bank's updated forecast, which envisages a 7.2% contraction in 2020 followed by a 3.8% recovery in 2021.
In August 2020 Moody's Investors Service affirmed the Government of Moldova's B3/stable long-term foreign and local currency issuer ratings, keeping the country in the highly speculative area and putting an end to the government’s plans for Eurobond financing. The rating assigned to Moldova is already associated with an estimated probability of default in the high single-digit region. Any downgrade would push Moldova’s sovereign rating from being highly speculative to substantial risk.
With the pandemic, Moody's expected the fiscal deficit to temporarily increase, exceeding 8% of GDP in 2020 from 1.4% in 2019, as a result of the coronavirus' dampening impact on revenues as well as newly introduced expenditure measures to mitigate the impact of the pandemic. But the country could not afford this kind of deficit for the simple reason that the government has not this kind of money to spend — its financing capacity was severely impaired by the political turmoil that put on ice planned agreements with the IMF, which in turn made the EU more reluctant to disburse funds. The World Bank estimates the 2020 budget deficit at 4.5% of GDP, but the actual figure might be even smaller.
Moldova's shock absorption capacity is low due to limited economic resilience reflecting low wealth levels and a narrow economic base as well as low institutional strength, Moody’s explained.
On the upside, the country’s fiscal strength is supported by a moderate debt level and high debt affordability despite the anticipated rise in debt-to-GDP induced by the coronavirus shock (from 27.4% of GDP at the end of 2019 to 36% of GDP one year later).
The susceptibility to event risk remains driven by political risk, Moody’s warns, adding that external support helps to contain the banking sector, liquidity and external vulnerability risks.
The staff-level agreement between the Moldovan authorities and the IMF on a new funded three-year programme with proposed financing of $558mn that focuses on supporting economic recovery after the coronavirus shock and advancing institutional reforms signals the willingness of the authorities to sustain the reform momentum, Moody’s reasons. The agreement, reached in the summer of 2020, is still pending IMF board approval.
The IMF forecasts Moldova's current account (CA) deficit to narrow slightly at 8.3% of GDP in 2020, from 8.9% of GDP in 2019. However, in 2021, the country’s CA gap is seen as further widening to 10.6% of GDP.
During 2020, Moldova’s central bank, the National Bank of Moldova (BNM), actively used monetary policy tools to support aggregate domestic demand. It also encouraged the government to use fiscal stimulus with the same end. In its last decision in 2020, the BNM decided at its December 9 meeting to maintain the refinancing rate at the current level of 2.65% with a view to supporting the economic recovery. BNM cut the rate by 0.1pp, to 2.65% in November “to support aggregate demand, the lending process and the economy as a whole”.
Consumer price inflation in Moldova continued to decrease, to 1.6% y/y in October from 2.3% y/y one month earlier.
According to the new inflation forecast round updated in November, the annual inflation rate was expected to decrease slightly by the end of 2020, and starting with the second quarter of 2021 will record an upward trajectory, reaching the end of the forecast horizon at the level of target inflation (5%).
Moldova’s banking system has strengthened significantly over the last few years since the financial frauds known as the “$1bn bank frauds” surfaced in 2014-2015. Better regulations, more transparent and credible ownership at the major lenders and robust capitalisation after the purge of the bad assets (included in the public debt) helped the banking system withstand the crisis and put it in a position to face the problems expected in 2021.
The banking system as a whole posted weaker profitability in 2020 as the banks set aside provisions to address the expected deterioration in the quality if their loan portfolios. However, the return on assets (ROA) remained at a safe level of over 1.7% (annualised) in January-October 2020 from 2.6% in the same period of 2019. The aggregated net profit of Moldovan banks shrank by 29% y/y to MDL1.39bn in the first ten months of 2020 — €28mn less than in the same period of 2019. Provisioning activities alone accounted for a negative impact of €29mn. At the same time, lending continued at modest pace during 2020, with the stock of bank loans increasing by 11% y/y to MDL43.4bn at the end of October 2020. The banks’ assets rose by 12% y/y to MDL99bn at the same time.
4. BUDGET AND DEBT OUTLOOK
The outgoing government has approved the budget for 2021, based on assumptions agreed with the IMF, including 4.7% GDP growth, after the 6.5% estimated economic contraction this year, and 2.7% consumer price inflation down from 3.7% in 2020. The underlying assumptions look too optimistic but putting the agreement with the IMF back on track after political normalisation in the country would alleviate risks by making financing more predictable. The budget is expected to be thoroughly revised. Moldova expects to have the new agreements with the IMF, already reached at the staff level in July, approved by the Fund’s board.
The general government budget envisages for 2021 revenues of MDL66.9bln (30.2% of GDP), expenditures of MDL81.3bln (36.7% of GDP) and a deficit of MDL14.4bln (6.5% of GDP). "The year 2021 is expected to be a year of recovering the losses incurred in 2020,” said former Minister of Finance Sergiu Puscuta.
According to the draft budget approved by the government, fiscal and customs policy measures for next year are aimed at contributing to the development of the national economy by supporting the business environment and consolidating budget revenues.
5. REAL ECONOMY OUTLOOK
Moldova’s economy plunged more than expected in 2020 (it lost 9% y/y in January-September and may have ended the year at around -8%) and its expected recovery through 2021 remains problematic. The steeper than expected decline in 2020 was caused by subdued production in agriculture — a sector that the country depends on too much.
The IMF estimates the country’s long-term growth potential at above 4% per annum. The robust figure is in line with Moldova’s sound potential that remains untapped because of the unreformed economy and problematic judicial system. Foreign investors, encouraged by the low cost of labour, have expressed interest in developing or purchasing existing production facilities in the country — but the corruption, political uncertainty, weak administrative capacity, vested bureaucratic interests and a rigid labour code prevent their projects aggregating into a relevant macroeconomic trend.
"Economic freedom is constrained by post-Soviet Moldova’s ongoing vulnerability to corruption, political uncertainty, weak administrative capacity, vested bureaucratic interests, a rigid labor code, dependence on energy imports, Russian political and economic pressure, heavy dependence on agricultural exports, and unresolved separatism in the country’s Transnistria region," the conservative Heritage Foundation said in its 2020 annual report.
Moldova is ranked 40th among 45 countries in the Europe region, and its overall score is well below the regional average and approximately equal to the world average, according to the report.
6. MARKETS OUTLOOK
Moldova has a stock market but it is small and relatively illiquid.
The company’s sovereign rating precludes raising money through Eurobond issues. Moody's Investors Service affirmed the government of Moldova's B3/stable long-term foreign and local currency issuer ratings in August, keeping the country in the highly speculative area.
The first Moldovan company to IPO, Purcari Winery, did so on the Bucharest Stock Exchange in 2018. After its business was affected by the pandemic and lockdown in the first half of 2020, the company reported its 3Q20 revenues were up 5% year-on-year, recovering the drop from 1H20.