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Will the Effects of the General VAT Reduction in Romania Meet Sales Growth Expectations?

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By: Cosmin Dan

    One of the biggest retailing events in 2015 in Romania was the new, differentiated VAT rate for food products and non-alcoholic drinks, reduced from 24% to 9%, effective from 1 June. Together with other fiscal changes, the first day of 2016 also brought the long-expected reduction in the general VAT rate from 24% to 20%. This had been raised to 24% in 2010 as a measure to increase public revenues during the economic crisis. The recent reduction was finally voted in with the aim of supporting domestic consumption and Romanian economic growth overall, but also as a populist approach, considering the two scheduled series of elections in 2016 (local and legislative). An additional VAT rate reduction is already planned for 2017, which will take the tax back down to 19%, the rate it had been at in 2010 before the original increase.

    Against a backdrop of declining VAT rates in Romania, food and non-alcoholic drinks retailing has seen a rise in sales. Non-grocery sales, however, are unlikely to meet sales growth expectations, primarily due to macroeconomic factors such as rising labour costs, currency fluctuations and the difficulties involved in changing shopper behaviour.

    Sales of food products and non-alcoholic drinks see double-digit growth rates

    Increased consumption as a result of the VAT reduction to 9% for food products and non-alcoholic drinks has been confirmed by official statistics data. Measured against the same periods in 2014, the retail sales of grocery products (food, but also including drinks and tobacco) posted value growth of 9% in January-May 2015, which expanded to 18% in January-November 2015. Starting June the impact of the new tax rate was a continuous monthly double-digit increase, with values 22% to 28% higher when compared to the same month in the previous year. Retail prices dropped by up to 12%, while parts of the black and grey markets became fiscalised.

    The positive effects of the new general VAT will be offset by macroeconomic factors

    Considering that Romania had one of the highest VAT rates in the region, and even the world, the announced tax cut from 24% to 20% was often mentioned across all media channels in 2015. Consumers’ expectations about this grew proportionally, but the reality of the country’s macroeconomic environment helps us foresee the reasons why its effects will be minimal. The reasons stem from different areas, increasing the likelihood that the effects of the lower rate will not be as significant as desired.

    The retail price impact for non-grocery products was a 3% drop, confirmed by the new values listed by retailers during the first days of 2016. Although customers took note of this and welcomed the declining VAT rate, the difference, especially in the case of lower-value products (home care, personal care etc), was insignificant and not enough to change purchasing habits, to support the migration to higher-quality brands or an increase of consumption.

    Additionally, as many products are imported, the currency fluctuations could prove to be a major negative factor. This is the case especially for electronics, appliances and other items such as apparel products, which have Asian countries as a source, with which the US dollar is used for transactions. In 2015, the Romanian leu lost 20% of its value against the US dollar compared to 2014. Furthermore, increasing labour costs in the manufacturing countries will only add more pressure.

    Other announced changes in the country will have an additional influence. One example is the side-effect of the increase in the minimum wage, which is scheduled for May 2016, aiming to improve purchasing power. The increase will generate a rise in labour costs and therefore most likely in the prices of products, furthering dampening the prospects of a rise in sales.

    Romanians’ expenditure remains a combination of necessity and limited resources, with food leading the list

    In addition to the previously mentioned factors, the new general VAT rate of 20% has attracted much less attention among retailers and consumers compared to the reduction in VAT on food products and non-alcoholic drinks. This is due to a combination of factors, including the lower necessity levels of non-grocery products, the reduced impact on retail prices and bad timing. Because the expenditure on food products and non-alcoholic drinks represents nearly 40% of Romanian consumers’ disposable incomes, other non-grocery products of lower necessity levels will see a reduced impact from changing retail prices. As for the timing, the new 20% VAT was applied right after the end of the year’s major shopping season, a period when retailers focus the vast majority of their efforts on investing significant resources and consumers spend in large amounts.

    Sales of non-grocery specialists forecast to be hardly impacted

    According to Euromonitor International it is expected that non-grocery specialists will record a low single-digit value growth rate in 2016 (constant terms, VAT excluded), quite similar to 2015. This means that the slight decrease in retail prices will not generate a significant increase in sold volumes. Instead, the consumption in 2016 is foreseen to be supported by consumers’ positive perception of the economic environment, the rise in incomes and the lower lending interest rates, which will favour durable goods acquisitions. Considering all these factors and understanding the specifics of the local market leads to the expectation of a stable value development for non-grocery products.

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