Moldova: Economy

Moldova is one of the poorest countries in Europe. It is landlocked, bounded by Ukraine on the east and Romania to the west. It is the second-smallest of the former Soviet republics and the most densely populated. Industry accounts for less than 15% of its labor force, while agriculture's share is more than one-quarter. The country lacks mineral resources and is almost fully dependent on imports of energy inputs (gas, oil, and coal).

Moldova's proximity to the Black Sea gives it a mild and sunny climate. This makes the area ideal for agriculture and food processing, which accounts for one-third of the country's GDP. The fertile soil supports wheat, corn, barley, tobacco, sugar beets, and soybeans. Beef and dairy cattle are raised, and beekeeping is widespread. Moldova's best-known product comes from its extensive and well-developed vineyards concentrated in the central and southern regions. In addition to world-class wine, Moldova produces liqueurs and champagne. It is also known for its sunflower seeds, walnuts, apples, and other fruits.

Like many other former Soviet republics, Moldova has experienced economic difficulties. Since its economy was highly dependent on the rest of the former Soviet Union for energy and raw materials, the breakdown in trade following the breakup of the Soviet Union had serious economic and social effects, exacerbated at times by drought and civil conflict. The Russian ruble devaluation of 1998 had a deleterious effect on Moldova's economy, which only started to rebound in 2000 after years of recession since independence. From 2000 to 2008, the country's economic growth averaged 6.3% (just below the average for the region) and was driven primarily by consumption fueled by remittances from Moldovan migrant workers. Even though affected by a two-fold increase in gas prices and a politically-motivated Russian ban on Moldovan wine imports in 2006, a severe drought in 2007, and floods in 2008, the economy proved resilient. The country was less prepared for the global crisis, which started to take its toll in the fall of 2008, despite an impressive growth rate of 7.8% for that year. With the onset of the global financial crisis and poor economic conditions in Moldova's main foreign markets, GDP dropped 6% in 2009. In 2010, an upturn in the global and regional economy boosted GDP growth to an impressive 6.9% despite a period of extended political transition and polarization. The growth was broad-based and is expected to continue into 2011 as a sign of Moldova's overcoming the economic crisis of 2009.

Moldova has made progress in economic reform since independence. The government has liberalized most prices and has phased out subsidies on most basic consumer goods. A program begun in March 1993 has privatized the vast majority of all housing units and nearly 2,000 small, medium, and large enterprises. Other successes include the privatization of nearly all of Moldova's agricultural land from state to private ownership, as a result of an American assistance program, "Pamint" ("land"), completed in 2000. A stock market opened in June 1995.

Following the economic difficulties caused by the Russian currency crisis of 1998, the country has had some success in reducing inflation, even though keeping it at single-digit levels has proved challenging. It was only in 2008 that inflation dropped below 10%--for the first time in recent years--to 7.3%. Owing to the global crisis that triggered deflationary pressures, inflation fell further to 0.4% in 2009, the lowest level since Moldova's independence. In 2010, as the country was emerging from the global crisis-induced recession, inflation accelerated to 8.1% owing to higher food prices and energy tariffs. After previous years of relative stability and gradual appreciation because of a weakening U.S. dollar and growing remittances from Moldovans working abroad, the value of the local currency, the Moldovan leu, eroded somewhat in 2009. Reforms to the National Bank of Moldova in 2006 changed the central bank's policy priority from currency stability to price stability (fighting inflation). Faced with the formidable task of sterilizing the money supply to contain inflation, in 2009 the National Bank of Moldova had to grapple with the unprecedented pressure on the leu caused by the effects of the global crisis, compounded by domestic political uncertainties. With the National Bank adopting a more explicit policy of inflation targeting and declaring a less-managed exchange rate flotation in 2010, the leu experienced periods of high volatility. Although Moldova managed to avert a financial crisis, the recession affected banks' credit quality. The share of non-performing loans shot up to 16.3% by the end of 2009 and one medium-sized bank became insolvent in June 2009. In 2010, the situation in the banking sector improved and the share of non-performing loans decreased to 13.1% by the end of the year. Lending conditions worsened despite expansionary monetary policy pursued by the National Bank.

While Moldova has made great strides in establishing a market economy since its independence, the economy remained overregulated and was hampered by government controls and corruption, creating very few additional jobs and forcing Moldovans over the years to migrate in increasing numbers to find work abroad. Moldova managed to maintain a tight fiscal policy over the years. However, as the global crisis hit the Moldovan economy hard in 2009, a year marked by two electoral campaigns, the country ran a deficit of 6.3% of GDP. In 2010, the government reduced the deficit to 2.5% of GDP. The economy continues to depend greatly on remittances sent from Moldovans working abroad. In 2008, remittances reached almost one-third of GDP, ranking among the highest in the world. After registering double-digit growth rates for most of the decade, in 2009 remittances fell 28.8%, reflecting plunging economic activity in countries with large numbers of Moldovan workers. The crisis exposed the vulnerability of the country's growth over the recent years. In 2010, remittances edged up 5.2%, but were still below the highest pre-crisis level.

As the European Union expanded to Moldova's border with Romania's accession in 2007, the trickle of foreign direct investment (FDI) coming into the country grew to a record $861 million. However, FDI was less than one-third of that figure in 2009 and 2010. Cumulative FDI since independence is slightly more than $2.8 billion, far below the country's needs. Sporadic and ineffective enforcement of the law, bureaucratic obstacles, corruption, economic and political uncertainty, and government interference have discouraged greater FDI inflows.

Worker remittances and higher energy prices fueled a consumption boom in recent years that has led to imports growing more rapidly than exports. Afflicted by trade deficits, the country lacks diversification in terms of sector development and export markets. After a contraction in foreign trade volumes a year before, in 2010 exports rebounded strongly but were overtaken by imports, leading to an expansion of the persistently high trade balance gap to 39.2% of GDP.

In 2005, Russia enacted a ban on Moldovan agricultural products and in 2006, it banned imports of Moldovan wines. Although Russian President Putin announced an end to the wine ban in November 2006, actual resumption of wine exports came a year later. The wine ban was particularly painful because, prior to the ban, Moldovan wines accounted for one-third of the country's exports and 80% of wine exports went to Russia. Some Moldovan wineries have been successful in finding new, alternative markets for their products. The current Central European Free Trade Agreement (CEFTA) and EU autonomous trade preferences are incentives for further market diversification. As part of talks for an Association Agreement with the EU started on January 12, 2010, Moldova seeks to establish a deep and comprehensive free trade area with the EU. In 2010, Russia again took measures to restrict Moldovan wine, fruit, and vegetable exports--ostensibly due to food safety concerns. Some easing of these restrictions was reported in September.

Moldova had an inconsistent relationship with the International Monetary Fund and World Bank until 2006 when the government reached an agreement with the IMF for a 3-year, $180 million Poverty Reduction and Growth Facility (PRGF) program. After the initial failure of negotiations for a new assistance agreement upon the expiration of the PRGF program, the IMF in January 2010 approved a 3-year combined Extended Credit Facility and Extended Fund Facility arrangement in the amount of $574 million for Moldova. This amount was supplemented by EUR 90 million (U.S. $125 million) of macro-financial assistance from the European Union. So far, the government is implementing the program successfully. Also, the government adopted the medium-term structural reform program Rethink Moldova, which received the support of international donors in 2010. A total of EUR 1.9 billion (U.S. $2.6 billion) was pledged in support for the period 2010-2013.

Sources: