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ACADEMY OF ECONOMIC STUDIES
FACULTY OF BUSINESS ADMINISTRATION IN
FOREIGN LANGUAGES
(ENGLISH)
GRADUATION THESIS:
THE IMPACT OF THE CURRENT FINANCIAL CRISIS ON:
IRELAND AS A DEVELOPED KNOWLEDGE BASED ECONOMY
ROMANIA AS A WEAK KNOWLEDGE BASED ECONOMY
- COMPARATIVE ANALYSIS -
Scientific Coordinator, Graduate,
Prof. Dr. Christina Marta Suciu Paul Gheorghiu
Bucuresti 2009
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Table of Contents
INTRODUCTION ..................................................................................................................................................2
CHAPTER I: KEY CONCEPTS..........................................................................................................................4
I.1. GENERAL MACROECONOMIC INDICATORS .................................................................................................4I.3. THE KNOWLEDGE BASED ECONOMY - MAIN CHARACTERISTICS ...............................................................8
CHAPTER II: IRELAND CASE STUDY .........................................................................................................13
II.1. IRELAND AS A KNOWLEDGE BASED ECONOMY .......................................................................................13II. 2. ECONOMIC DEVELOPMENTS IN IRELAND PRIOR TO THE FINANCIAL CRISIS ..........................................16II. 3. IRELANDS CURRENT SITUATION.............................................................................................................18II. 4. MEASURES ADOPTED TO TACKLE THE FINANCIAL CRISIS.......................................................................20II.4 CONCLUSIONS.............................................................................................................................................20
CHAPTER III: ROMANIA CASE STUDY......................................................................................................22
III.1. ROMANIA AS A KNOWLEDGE BASED ECONOMY ....................................................................................22III.2. ECONOMIC DEVELOPMENTS PRIOR TO THE FINANCIAL CRISIS..............................................................25III.3. ROMANIAS CURRENT SITUATION ..........................................................................................................27III.4. MEASURES ADOPTED TO TACKLE THE FINANCIAL CRISIS ......................................................................30III.5 CONCLUSIONS ...........................................................................................................................................31
CHAPTER IV: MICROECONOMIC SITUATION. CASE STUDY: AA COMPANY.............................32
IV. 1. WHAT IS AA COMPANYS REAL SITUATION?..........................................................................................33IV.2. PERFORMANCE: ACT DECISIVELY, BASED ON RELIABLE DATA..............................................................35IV. 3. MANAGE YOUR COSTS, NOT JUST LOWER THEM ....................................................................................36IV. 4. CASH IS KING ...........................................................................................................................................37
IV. 5. THINK LONG-TERM, THE CRISIS WILL PASS ...........................................................................................39IV. 6. PREPARE FOR POTENTIAL RISKS.............................................................................................................40IV. 7. DONT FORGET ABOUT TAX AND LEGAL IMPLICATIONS ........................................................................41IV. 8. COMMUNICATE .......................................................................................................................................42IV. 9. WHERE TO FINANCE FROM? ...................................................................................................................42IV. 10. RECOGNISE THE VALUE OF EMPLOYEES ..............................................................................................43IV. 11. CONCLUSIONS: ......................................................................................................................................44
CONCLUSIONS...................................................................................................................................................45
REFERENCES:....................................................................................................................................................47
DECLARATIE PE PROPRIE RASPUNDERE.................................................................................................49
APPENDIX............................................................................................................................................................50
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Introduction
I believe the purpose of the thesis is to quantify all the theoretical and practical
knowledge accumulated by a student throughout his/her years of study into one piece of work
which best represents his/her areas of interest.
In my case, macroeconomics has been one of the courses which both inspired and gave
me the confirmation that pursing my university studies in the economic filed was the right
choice. Back when I was still in high school; I managed to obtain a few months free
membership with Financial Times. I remember reading the macroeconomic news, statistics
and analysis with the most excitement. Upon completion of the macroeconomics course in the
2nd
semester of the 1st
year of studies, I also acquired the theoretical background which helpedme better understand the causes and effects of different kinds of macroeconomic changes. I
have to admit that I still get a pleasant sensation whenever I take Mankiws macroeconomics
book in my hands.
Macroeconomics is a great subject because it provides us with tools by which we can
judge the performance of an economy. It is generally assumed that the objective of the
government in any country is to raise the material well being of the country. Now the question
is how to define the material well being of the country. These questions are discussed in
welfare economics which forms a part of macroeconomic theory. Macroeconomic theory is
also useful to the governments for formulating appropriate policies such as monetary policy,
fiscal policy, income policy. All these aspects impact our daily lives to a great extent. Without
having an efficient framework which supports and promotes innovation, the society will have
a difficult time progressing.
The 21st century is said to be the century of the information society. The tremendous
rate at which the internet and telecommunication services have developed determined are
indications of the speed of advancements in todays society. People nowadays have instant
access to an unlimited supply of information and they can share and exchange ideas and
feelings at a glance. Since I try to keep up with the insane pace dictated by our society, I read
a lot of articles on various economic themes.
Reading articles also gave me the idea of tackling the issue of comparing the impact of
the current financial crisis on two very different economies. The choice for Romania was
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rather obvious, I wanted to understand more about the macroeconomic mechanisms of my
own country. Ireland was also a good choice because of several reasons. Firstly, I was pretty
impressed by the historic background of quick and sustainable development which
characterized the Celtic Tiger in the years prior to the financial crisis, so Irelands quick fall
from grace was a real surprise for me. I was very curious as to understand why Ireland, apositive example for all developing countries in Europe had such a disastrous fate during the
crisis. Also, Ireland having English as its official language, made it easier for me to obtain
statistical data in order to support my research.
The reason why I found it relevant to insert knowledge based economy aspects into
this work is because I believe that it is important to understand the changes which reshape the
way we think about economy as a whole. The knowledge based economy concept is a rather
new concept and its general principles are very valid and applicable to our modern economic
context.
The purpose of this thesis is to try and explain which were the main causes behind
Romania and Irelands vulnerability in the face of the economic crisis. I attempted to find
these causes by looking at both countries historic performance and by comparing their
reaction to the threats posed by the crisis. I also tried to investigate why Irelands superior
state as a knowledge based economy didnt help it overcome the crisis with much greater ease
than Romania.
The microeconomics part of this thesis, tries to identify which are the differences in
terms of approach aimed at mitigating risks arisen from the economic crisis between a
multinationals subsidiary in Romania and the same companys subsidiary in Ireland. The firm
on which the microeconomic case study is performed is chosen from the professional services
field because I personally work in a firm activating in this area and it was easier for me to
obtain aggregate information and draw conclusions by having an inside view on all issues. The
study also tries to identify if macroeconomic differences between the two countries also
translate at the microeconomic level.
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CHAPTER I: Key Concepts
In order to have a good and complete understanding of the terms used in both the
macroeconomic and microeconomic case studies, an introductory overlook of the key terms
and notions is needed. The chapter below forms a theoretical baseline which supports the
concepts developed later.
I.1. General Macroeconomic Indicators:
GDP (Gross Domestic Product):
The GDP represents the value of a country's overall output of goods and services
(normally during one fiscal year) at their market prices, excluding net income from abroad.
GDP can be estimated in three different ways which, in theory, should yield identical results.
They are:
Expenditure basis: how much money was spent,
Output basis: how many goods and services were sold,
Income basis: how much income (profit) was earned.
The GDP estimates are published quarterly, being revised constantly in order to approach
greater accuracy. The most carefully watched data in each period to period change is output
and consumption, in real terms (adjusted with inflation). If net income from abroad is added,
then it is called gross national product (GNP).
The most commonly used approach to measuring and quantifying GDP is the expenditure
method:GDP = consumption + gross investment + government spending + (exports imports)
The main criticisms of GDP as a realistic guide to measuring a nation's well being are that
it fails to capture the period to period changes in wellbeing accurately, for example
GDP increases when there are car accidents.
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it includes the cost of damage caused by pollution as a positive factor in its
calculations, while excluding the lost value of depleted natural resources and unpaid
costs of environmental harm. Called also gross value added (GVA).
Inflation and Deflation:
Inflation and Deflation, in economic terms are used to describe a decline or an increase
in the value of money, in relation to the goods and services it can potentially buy.
Inflation represents a sustained rise in the aggregate price levels measured by an index
which reflects changes in the cost of various goods and services. Repetitive price increases
decrease the purchasing power of money and other financial assets with fixed values, thus
leading to serious economic distortions and uncertainty. Inflation takes place when economic
pressures and anticipation of future events cause the demand for goods and services to exceedthe available supply at current prices or when available output is restricted by decreasing
productivity and marketplace constraints.
Deflation represents a sustained decline in the aggregate prices level, by historical
terms, such a phenomenon occurred during the Great Depression of the 1930s. Deflation is
usually associated with a prolonged erosion of economic activity and a high unemployment
rate.
Balance of payments:
The balance of payments (BOP) is the statistical statement where countries record their
monetary transactions with the rest of the world. Transactions are either marked as a credit or
a debit. The BOP is comprised of three different categories under which the transactions are
included: the current account, the capital account and the financial account.
In the current account, goods, services, income and current transfers are recorded. In
the capital account, physical assets such as factories or buildings are recorded. And in the
financial account, assets belonging to international monetary flows of, for example, business
or portfolio investments are noted.
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Current account:
The components of the current account are the following: goods, services, income and
current transfers.
Goods - These are movable and physical by nature, and in order to record a transaction
under the denomination "goods", a change of ownership from/to a resident (of the localcountry) to/from a non-resident (in a foreign country) has to take place. Movable
goods include general merchandise, goods used in order to process other goods, and
non-monetary gold. Exports are marked as credit (money coming in) while imports are
noted as debit (money going out).
Services - Are transactions which result from intangible actions such as transportation,
business services, tourism, royalties or licensing. If money is being paid for a service it
is recorded just as an import (a debit), and if money is received it is recorded like an
export (credit).
Income - Income is money going in (credit) or out (debit) of a country from salaries,
portfolio investments (in the form of dividends, for example), direct investments or
any other type of investment. Together, goods, services and income provide an
economy with fuel to function. This means that items under these categories are actual
resources that are transferred to and from a country for economic production.
Current Transfers - Current transfers are unilateral transfers with nothing received in
return. These include workers' remittances, donations, aids and grants, official
assistance and pensions. Due to their nature, current transfers are not considered real
resources that affect economic production.
Now that we have covered the four basic components, we need to look at the mathematical
equation that allows us to determine whether the current account is in deficit or surplus
(whether it has more credit or debit).
Here are the variables that go into the calculation of the current account balance (CAB):
X = Exports of goods and services
M = Imports of goods and services
NY = Net income abroad
NCT = Net current transfers
The formula is:
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CAB=(X-M)+NY+NCT.
Budget deficit:
The budget deficit means that government spending is exceeding revenues. Governments
finance deficit spending by borrowing money through the issuance of bonds or more
controversially by issuing money. Deficit spending is politically controversial because of the
belief that government borrowing reduces the amount of money available for private
investment.
I.2. General Indicators Found in the Microeconomic Section
Bonds:
The bond is an interest-bearing certificate sold by corporations and governments to
raise money for expansion or capital. An investor who purchases a bond is essentially loaning
money to the bond's issuer in return for interest. The investor can hold the bond and collect
interest payments or sell the bond to a third party.
Direct costs and indirect costs:
Direct costs are the costs that are traced to a specific cost objective like
product/service.
Indirect costs are the costs that cannot be directly traceable to a particular cost objective and
incurred for multiple cost objectives.
Audit:
The general definition of an audit is an evaluation of a person, organization, system,
process, project or product. Audits are performed to ascertain the validity and reliability of
information. The goal of an audit is to express an opinion on the person / organization/system
under evaluation based on work done on a test basis.
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Working capital:
Working capital is a measure of both a company's efficiency and its short-term
financial health. The working capital ratio is calculated as:
Working Capital = Current assets Current liabilities
Positive working capital means that the company is able to pay off its short-term liabilities.
Negative working capital means that a company is currently unable to meet its short-term
liabilities with its current assets (cash, accounts receivable and inventory).
Stakeholder:
A stakeholder is a person, group, or organization that has direct or indirect stake in an
organization because it can affect or be affected by the organization's actions, objectives, and
policies.
Risk management:
Risk Management is the identification, assessment, and prioritization of risks followed
by coordinated and economical application of resources to minimize, monitor, and control the
probability and/or impact of unfortunate events.
I.3. The Knowledge Based Economy - main characteristics
It is widely acknowledged that in the last 20 years, the share of high-technology
industries in total national manufacturing production has risen considerably. This is especially
true for highly developed countries. This trend is logical if you think about the fact that most
developed countries have moved their medium and lower end centers of production to
countries in Eastern Europe or Asia where the cost of labor is significantly lower. High-
technology requires very well trained people and professionals, people who are traditionally
paid very well. The introduction of very technological advanced production lines has also
helped improve the general skill base of the labor force. A previous production worker, who
has undergone training in the use of computers and robots as a production tool, can now be
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considered a knowledge worker. Such production lines have been introduced in high
developed countries in the hope of improving productivity and decreasing costs. Wealthy
countries were the only ones who could afford such technology anyway.
In the new economy, the knowledge component of products and services has had a
dramatic increase in importance and has become the dominant component of customer value.The shift to knowledge as the primary source of value means that the new economy will be led
by those who manage knowledge in an effective manner, who create find, and combine
knowledge into new products and services faster than their competitors.
Such trends have determined analysts to start thinking about revising classical
economic theories. It is clear that investments in knowledge are yielding increasing returns.
This is because they can improve the productive capacity of other factors of production, and
they also speed up the development of new products and processes. Therefore investments in
knowledge are the key to long-term economic development.
So lets sum up which are the main interlocking driving forces that are changing the
rules of business and national competitiveness. One is globalization, markets and products are
more global. Products by Nike and Coca Cola are known the world over. Today, even
resourcing is becoming global. Thus many companies outsource manufacturing and software
development to distant locations. Another is the increasing knowledge and information which
are required for a job. Efficient production relies on information and know-how; over 70 per
cent of workers in developed economies are information workers; many factory workers use
their heads more than their hands. And lastly, the networking and connectivity, developments
such as the Internet bring the 'global village' ever nearer. The net result is that goods and
services can be developed, bought, sold, and in many cases even delivered over electronic
networks. Electronic commerce offers many advantages in terms of costs savings, efficiencies
and market reach over traditional physical methods. You no longer have to travel long
distances to meet someone and discuss important aspects concerning business, you can make
all kinds of transactions using the internet and lets not forget about the fact that you can
exchange knowledge and information with anyone, anywhere without encountering too many
barriers. This can be seen as a response to the need of handling the know-what and know-why
portions of knowledge more efficiently. However, the availability of knowledge and
information over networks, has lead to its codification. This means it is acquiring more and
more the characteristics of a commodity.
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As I stated above, investment in knowledge can raise the returns on investment, we can
use these returns to invest in even more knowledge, which leads to an accumulation of
knowledge. There is thus the possibility of sustaining increases in returns on investment which
can lead, to continuous rises in a country or a companys growth rate. This can prove to be one
of the few ways a developed economy can still maintain a decent growth rate. The knowledgeeconomy differs from the traditional economy in several key aspects.
The economics is not of scarcity, but rather of abundance. Unlike most resources that
deplete when used, information and knowledge are virtually infinite, they can be shared, and
actually grow through application. The effect of location is diminished. Using appropriate
technology and methods, virtual marketplaces and virtual organizations can be created that
offer benefits of speed and agility, of round the clock operation and of global reach. Laws,
barriers and taxes are difficult to apply on solely a national basis. Knowledge and information
leak to where demand is highest and the barriers are lowest. Knowledge enhanced products
or services have a lot of price advantages over comparable products with low embedded
knowledge or knowledge intensity. Pricing and value depends heavily on context. Thus the
same information or knowledge can have vastly different value to different people at different
times. Knowledge when locked into systems or processes has higher value than when it can
walk out of the door in peoples heads. Human capital is a key component of value in a
knowledge-based company, yet few companies report competency levels in annual reports. In
contrast, downsizing is often seen as a positive cost cutting measure. These characteristics,
so different from those of the physical economy, require new thinking and approaches by
policy makers, senior executives and knowledge workers alike. To do so, though, requires
leadership and risk taking, against the prevailing and slow changing attitudes and practices of
existing institutions and businesses.
As access to information becomes more facile, the skills and competences relating to
the efficient selection and use of information are becoming more crucial. Tacit knowledge is
the form of skills needed to transform the codified information into something useful. Tacit
knowledge or implicit knowledge, can also be seen as far less tangible than explicit knowledge
and is deeply embedded into an organization's operating practices. It is often called
'organizational culture'. Tacit knowledge includes relationships, norms, values, and standard
operating procedures. Because tacit knowledge is much harder to detail, copy, and distribute,
it can be a sustainable source of competitive advantage. Workers will be required to have both
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formal education and the ability to acquire and apply new skills, they will increasingly be paid
for their tacit knowledge skills rather than for manual work.
The knowledge based economy concept places great emphasis on the diffusion and use
of information and knowledge, firms search for links to promote inter-firm interactive
learning, while also directing the search for complementary assets to outside partners andnetworks. These relationships help firms spread the costs and risks associated with innovation
among a greater number of organizations.
Recent trends in highly developed countries show that with the introduction of more
knowledge-intensive means of production, the need for highly skilled workers has grown
significantly. The fact that highly skilled workers are paid more is also a true, while this seems
normal, its problematic, because a discrepancy appears between skilled and less skilled
workers. Another problem occurs because unskilled workers can no longer find jobs, most of
the tasks which dont require too much skill are now performed by immigrants, robots or they
are outsourced.
The knowledge economy is constantly evolving and should have important
implications for policy makers of governments at a local, regional and national level, as well
as international agencies and institutions. Traditional examples of economic success must be
supplemented by new ones, for example Nova Scotia has developed Knowledge Quotients for
their economy. They represent a great step forward towards understanding the implications
knowledge can have on economy. However, we have to admit that measuring the contribution
of knowledge has to the economy is hard, and this is because most forms of knowledge can
travel freely, it is difficult to trace their use and therefore its benefits.
Economic development policy should not focus on jobs created but rather on
infrastructure for sustainable knowledge enhancement. This infrastructure acts as a magnet
for knowledge-based companies. Countries should focus on facilitating things such as the
production, transmission and transfer of knowledge with concern towards also supporting the
development of regulations for information and knowledge trading at an international level,
mainly investing in future knowledge-based industries rather than traditional ones For
example several EU programmes now focus on market development (rather than product
development) and encourage participation across national boundaries using electronic
knowledge networking methods.
The empirical evidence suggests that enterprises which perform R&D are more likely
to survive longer and provide higher quality and better paid employment. The latest trend
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shows that enterprises have an increased propensity to access knowledge and new ideas from
around the world to grow and compete on international markets and to provide sustainable
high quality employment. Investment in R&D is also at the heart of the European agenda to
improve economic growth and competitiveness (the Lisbon Agenda). Following a decade of
relatively stagnant growth and poor competitiveness lagging behind the US and Japan, the EUHeads of State at Lisbon in 2000 agreed a strategy to reinvigorate growth in the EU. At
Barcelona in 2002 Heads of State agreed to a target for Europe for gross expenditure on R&D
to reach 3% of GDP by 2010. Unfortunately, given the way things look now, this objective
seems impossible. They also agreed that two-thirds of the increase in R&D should come from
the enterprise sector.
To conclude, knowledge economies have always been part of our lives. The difference
now is that IT (Information Technology) is allowing us to accumulate and analyse this
knowledge like never before .The wealth of a country relies heavily on the wealth generating
capabilities of its human factors of production, enterprise and labor. These factors in turn are
dependant on their knowledge to generate such wealth, hence the term knowledge-based
economy is born. For an individual, assessing trends in the economy to determine valuable
knowledge determines him to obtain marketable skills that allow him to generate personal
wealth. Such trends by their nature do not stand still, therefore it is likely that all knowledge
workers (or professionals) will have to keep an eye on their own levels of knowledge
indefinitely, to ensure that they are continually improving and building upon their expertise.
The detailed explanation above regarding the meaning of the term knowledge based
economy combined with the notions refering to microeconomic and macroeconomic aspects
are merely theoretical means for understanding the impact of the crisis on a multinational
company and on the two economies under the spotlight.
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CHAPTER II: Ireland Case Study
The chapter below will present the economic situation in Ireland by analyzing the
extent to which the country has made progress in becoming a knowledge based economy, the
macroeconomic history of the country, the way the financial crisis affected the country and
which were the measures taken by the government in tackling the effects of the financial
crisis.
II.1. Ireland as a Knowledge Based Economy
Irelands Current R&D Performance:
R&D in the business, higher education and public research institutions increased three
times during the1990s. Business expenditure on R&D reached 917 million in 2001.
One-third of foreign business entities in Ireland (300 enterprises) are active in R&D. These
firms account for two-thirds of all business R&D. Of these, 50% spend less than 500,000
annually. Nineteen foreign business entities spend more than 5 million annually and account
for two-thirds of all R&D performed by foreign business entities in Ireland (figure 1.1)
One-third of local enterprises (1,000 enterprises) have some expenditure on R&D, with 85%
spending less than 500,000 per year. Only twenty six of the 1,000 local enterprises have
expenditure of more than 2 million annually. (figure 1.2) A more detailed view on R&D
expenditure across EU states as percentage of GDP can be seen in figure 1.3.
Realizing the Vision Through Policies:
The governments vision represents a transformation of Irish society. Therefore it is
essential that the relevant stakeholders are involved in the development and implementation of
strategies for achieving this vision. To achieve the targets set out for building Irelands
research and development base, the following actions are to be implemented:
National Pro-Innovation Culture
Develop a national pro-innovation culture supportive of invention, risk-taking and
entrepreneurship
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R&D in the Enterprise Sector
Re-orient the enterprise support budget to R&D and develop a new and less
bureaucratic approach to R&D support that encourages a systematic and continuous
approach to R&D within enterprises;
Strongly support the development of strategic research competencies (technologyplatforms) based on enterprise needs;
Develop the seed capital markets for early stage ventures.
R&D in the Public Research System
Develop a national plan to increase the performance, productivity and efficiency of
research in the higher education and the public sectors;
Sustain Irelands commitment to building an international reputation for research
excellence.
A Highly Attractive Environment for Researchers
Make Ireland a highly attractive environment for high quality researchers and research
careers.
Turning Knowledge into Products and Services
Develop the intellectual property management and commercialisation expertise and
resources necessary to ensure effective and rapid exploitation of research generated in
higher education and public research sectors.
Two-thirds of the current gross expenditure on R&D in Ireland is being undertaken by
the enterprise sector, with two-thirds of business R&D being performed by foreign enterprises
in Ireland. The higher education and public research base is performing a dual role of
providing high level research across all disciplines and focused research in areas of key
national interest. In addition the higher education sectors main role is that of supplying high
quality graduates for both the enterprise and public sectors.
The Minister for Enterprise, Trade and Employment established a High Level SteeringGroup in 2003 in order to determine what the policy initiatives implications were at European
level for the Irish society and what actions Ireland needed to take. The Group was involved in
a wide ranging consultation with all the stakeholders in the national innovation system, in-
depth analysis of current public and private investment in R&D and assessed the business
environment for R&D in Ireland.
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Universities:
An important feature of knowledge-based economies is their ability to convert
knowledge from just a research base into products designated for economic and social benefit.
This is dependent on collaborative research between industry and academia. Up until now,
Irelands export base in high technology areas was as a result of licensed-in technologies. Intothe future, real success and growth will depend on the countrys ability to transfer the
knowledge generated domestically into goods and services for world markets requiring
effective on-going relationships between the enterprise and academic sectors.
The levels of linkages between enterprise and academia remain low, (around 19%)
illustrates the percentage of companies that have active R&D collaboration with the third level
sector, this being a rather sad indicator of Irelands current R&D collaboration development
level. Perhaps the most important point to note in this regard is that foreign companies have a
higher collaboration incidence. This is, at least partially attributable to their link with their
overseas parent. We should however note in this context, that the above average incidence of
joint research among foreign companies is also clearly evident with regard to links with third
level education (both inside and outside Ireland).
Human Resources for R&D
A strong research base in any sector requires that a number of highly qualified people
should be available to carry out that research. Overall, Ireland in 2007 had the equivalent of
5.1 researchers per 1,000 of total employment in the economy in 2007. The OECD average in
2007 was 6.5 researchers per 1,000, with Finland (15.8 per 1,000), Sweden (10.6 per 1000),
Japan (10.5 per 1,000) and the US (8.6 per 1,000) significantly above the OECD average.
These are also the only countries where researchers in the enterprise sector exceed 6 per 1,000
of total employment.
Conclusion
Ireland has the potential to achieve a step change in the performance of R&D over the period to 2010 and beyond. However, due to the recent impact of the financial crisis,
advancements in the R&D sector are likely to stagnate or even decrease. The determinant of
Irelands future economic well-being will be its success in stimulating business to do more
R&D, by stimulating innovation and a entrepreneurship culture amongst researchers and
fostering effective linkages between the enterprise and academic fields.
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II. 2. Economic developments in Ireland prior to the financial crisis
The roots of Irelands fall date to more than 20 years ago, when a group of economists,
politicians and civil society representatives planted the philosophical seeds for the Irish
economic miracle.
Known widely as the Doheny & Nesbitt School of Economics, it soon became
government policy that chopped taxes in half, sharply reduced import duties and embraced
foreign investment; a radical transformation that gave birth to the Celtic Tiger and perhaps the
most open and vibrant economy in Europe.
To cynic observers, Irelands fall from grace is an overdue payback for its previous
fast rise. Between 1990 and 2007 the economy grew by an annual average of 6.5%. It is easy
now to consider the rise in living standards in the Celtic Tiger years as illusory, particularly
as Ireland enjoyed house-price and credit booms that were big even by British standards. But
to only focus on the events related to the bursting of the housing bubble would mean to miss
the lasting gains that were made.
Irelands expansion went through two phases. The first, which was led by exports and
powered by foreign direct investment, ended roughly in 2002. Foreign companies, mainly
American, provided large amounts of capital and know-how. Ireland offered in return a young,
educated, English-speaking, low-cost workforce. State grants, a low corporate-tax rate and
access to the EUs single market made things even sweeter. That gave way to a period of
growth on weaker foundations. Low interest rates, a consequence of euro membership, led to a
huge increase in property prices and spurred a building and retailing boom. The boom got an
endorsement in 2004 as migrants from the EUs new member states flooded in. Continued
growth gave the impression that all was well. But as we can observe now, the Celtic Tiger had
already vanished.
But beyond the glow that made Ireland the fourth most wealthy country in the
Organization for Economic Cooperation and Development, a housing bubble had begun to
form. Low interest rates, a wave of inward immigration and a bank lending spree drove
housings share of the economy to 14 percent, the highest in Europe, from 5 percent,
according to research done by Finfacts, a financial Web site that analyzes the Irish economy.
Irelands policy makers, like their counterparts in the rest of the countries currently
heavily affected by the crisis, were seduced by record tax inflows and a full-employment
economy. They paid little attention to the scarce voices that warned of the crash that finally
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came over the summer. When interest rates in Europe began to rise. Banks that had directed
more than 60 percent of their loans toward property stopped lending, and asset values
dropped.
Irish banks, unlike those in the United States, didnt grant that many subprime loans.
Rather, they lent important amounts to big property developers who themselves wereencouraged to build by government-imposed tax breaks. This is because our genius free-
market entrepreneurs came up with a brilliant business model based on leverage. Basically,
this meant that it was more profitable to build businesses with borrowed money than it was to
do so through capital investment, all thanks to the fact that bankers had friends government
friends who wrote the tax laws so that borrowings could be written off.
Last month Waterford Wedgwood, a maker of luxury glassware and china, went into
receivership; and Dell, a computer maker, announced it was closing its manufacturing plant in
Limerick, with the loss of 1,900 jobs, and moving to Poland.
One important factor was a big rise in public-sector wages after a 2002 review. State
workers were discontent about the fact that they had been left behind by the private sector.
The review led to an important increase in pay, a symptom also of a generally relaxed
approach to public finances. Members of the Irish Government took a very relaxed approach
in this situation by saying that Ireland could afford the salary increase, thus it was justified.
Cuts in income tax left public finances too dependent on revenues from VAT on new homes,
capital-gains tax and stamp duty. Those revenues dried up very fast once house prices and
sales decreased, pushing the budget into deep deficit.
The fragile economy and a continuing loss of competitiveness have made bond
markets nervous about Irelands ability recover. The yield on Irelands ten-year government
bonds, at 6%, is way above those of Germany, at 3.2%. Both countries borrow in euros, so the
gap is a clear indicator on how creditworthy investors consider Ireland to be.
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II. 3. Irelands Current Situation
The 20082009 Irish financial crisis is the official name of the economic crisis which
is currently under development in Ireland. and is in part responsible for the country falling into
recession for the first time since the 1980's. The made an official announcement it was in
recession in September 2008, with a sharp rise in unemployment occurring in the following
months. Ireland was the first country in theEurozone to enter recession officially.
Everything, it seems, has gotten worse here. The recession started early and its bite has
been deeper. Housing prices have fallen by as much as 50 percent. Bank shares have gone
down by more than 90 percent. The government has injected 3.5 billion ($4.5 billion) into
each of the countrys two largest banks, but this has not yielded a positive impact on the
markets. Shares in Allied Irish Banks and Bank of Ireland have fallen sharply. After the
bursting of the property bubble, more than 7 billion may be needed to cover bad loans issued
to developers. In January the government nationalised Anglo Irish Bank(considered as the
builders bank), after its chairman, Sean Fitzpatrick, failed to disclose some 83m in personal
loans.
Even so, GDP has contracted by 8.5% in Q1 of 2009 (see figure 1.4) and the
unemployment rate is set to rise to over 9% this year. And Ireland is currently looking at a
projected 9% decrease in GDP over the course of the whole year.
Much will depend on how the rating agencies will judge the latest efforts by the
government to stabilise the public finances. After weeks of talks, it failed to win trade union
support for much needed budget cuts. Yet the measures rejected by the unions were imposed,
including a pension levy on public-service workers. The governments unilateral action
signalled the end of twenty years of social partnership, based on a consensual approach to
wage negotiations between government, employers and unions.
The governments cuts are the first steps in a five-year austerity programme meant to
lower a huge budget deficit. But they come at a hard time. The economy has been hit by the
global credit crisis, a burst property bubble coupled with collapsing tax revenues. This years
estimated budget deficit will be close to 10% of GDP (see figure 1.5), even after the latest
cuts. The government hopes to restore balance by 2013, but that will necessitate spending cuts
and tax increases worth 16 billion (equivalent to 8% of GDP).
When the property bubble burst, it left a mark beyond the unsold houses and bad debts.
The housing boom had demolished one pillar of Irelands appeal: its low costs. Inflation had
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risen and unit labour costs (ie, pay adjusted for productivity) rose sharply relative to Irelands
main trading partners. A recent study by the European Central Bank determined that Irish unit
labour costs had risen by 30% between 1999 and 2007, the biggest jump in the euro area.
A steady current-account surplus in the mid-1990s had turned into a big deficit a
decade later, a sign that Ireland had become too expensive.The numbers of people asking for unemployment benefit in Ireland rose to 326,000 in
January 2009, the highest monthly level since records began in 1967. Most of the job losses in
2008 were recorded in the construction industry. The biggest problem is that 2009 will see the
job losses in construction continue and they will eventually spread to the rest of the real
economy.
Yet the pressing task remains to keep the budget deficit within normal boundaries. The
mini-budget in April was the fourth fiscal package in a year. In February, in the teeth of union
opposition, the government introduced a tax on public-sector pensions that cut net pay by an
average of 7.5%. The problems will get worse in April. Income-tax rates will probably rise,
some capital projects may be put on hold and more current spending will be cut. The Irish
however insist on keeping their 12.5% corporate-tax rate. Still, once the economy hits bottom
and the new measures take their full effect, the 2010 deficit should be less scary to general
public perception and the markets.
Some economists believe that an agreement that cuts public and private pay in tandem
is necessary. As a euro member, Ireland cannot devalue it currency to restore competitiveness,
so wages must fall. A Dublin Chamber of Commerce survey identified that nine out of ten
firms were reducing or freezing salaries; almost a third of respondents were cutting executive
pay by 10% or more.
In America and Britain, policy is oriented towards avoiding deflation, which raises the
real cost of debt. But Ireland tries to find salvation in lower wages, even though its households
are also heavily indebted. Whereas many countries are planning on lifting their economies by
fiscal expansion, Ireland is tightening its budget. Few other countries face such big deficits.
By implementing these measures, the Irish hope for a reward in improved confidence among
foreign investors and at home.
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II. 4. Measures adopted to tackle the financial crisis
The Governments main economic and budgetary principles are geared at achieving
further significant, sustainable growth while operating responsible fiscal policy. Government
policy is concentrated on rebuilding as soon as possible, by raising Irelands productive
capacity, particularly in terms of public infrastructure and ensuring high-levels of high-quality
employment, and in doing so to improve quality of life and achieve a fairer society. Delivery
of the medium-term economic policy and investment framework as set out in the National
Development Plan 2007 2013 is the key priority for the Government to raise Irelands
productivity, enhance competitiveness and secure future prosperity. The Government is
committed to making significant progress in reaching its environmental targets and is
implementing an extensive range of measures as set out in its newNational Climate Change
Strategy and initiating a carbon report with this Budget.
The Governments guiding principles for fiscal policy for 2007 2012 as set out in their
Programme for Government are to:
Keep the Budget in broad balance and fully within the commitments under the
Stability and Growth Pact.
Retain flexibility to deal with any future shocks
Set aside a minimum of 1% of GNP per annum to provide for the future pensions of
todays workers. Implement a series of significant and sustainable increases in key public services such
as pensions, health and schools.
Keep the overall tax burden low and implement further changes to enhance the rewards
of work while increasing the fairness of the tax system.
II.4 Conclusions
Ireland clearly has a well structured knowledge based economy development strategy.
This strategy, prior to the financial crisis, was one of the governments main priorities.
However, due to the insufficient development of the countrys domestic R&D systems and
because of the rather insufficient cooperation between universities and the business
community, Ireland failed to position itself in such a way as to mitigate the negative effects of
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the crisis by having a strong knowledge based economy. In the years prior to the financial
crisis, Ireland failed to notice the fact that its growth was no longer sustainable. The real estate
bubble constantly increased its proportions until, with a little help from the US subprime credit
crisis, it burst sending the economy into deep recession. The current government is faced with
the daunting task of reducing the budged deficit and trying to bring growth back to a shatteredeconomy.
In the next chapter, the analysis will try to unveil how the crisis affected a developing
country such as Romania, which also had a real estate boom but with an economy based on
weaker macroeconomic fundamentals. At first glance one would expect Romanias faith to be
at least similar with the situation in Ireland, the truth is to be unveiled in the analysis below.
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CHAPTER III: Romania Case Study
Like all ex communist states, Romania only started experiencing market economy in
its real sense at the beginning of the 90s. Ever since the fall of the communist regime,
Romania has been in a constant transition period. Drastic need of reform is felt in pretty much
every area of activity. Romania, although trying to embrace the concept of knowledge based
economy, it fails to consider it as a priority. That is why most of our bright minds are seeking
better working conditions abroad, being creative and transforming their knowledge into
tangible results for someone else. The impact of the crisis hasnt been as disastrous as
anticipated in Romania mainly because of the low levels of foreign debt, a good policy carried
out in the last decade by the central bank and the attractiveness of the countrys low cost
profile. The governments response to the financial crisis, although insufficient has still saved
the country from total disaster.
III.1. Romania as a Knowledge Based Economy
Romanias Current R&D Performance:
R&D expenditure in Romania has had a modest dynamic until now, being situated
under 0.4% of GDP annually. It is currently at 10% of the target set out by the EU. Due to the
enhanced competition brought by Romanias integration in the common market, R&D
activities will provide the only solid ground on which Romanian companies will be able to
resist on the market. Investment in R&D will yield technological advancements which in turn
will lead to the competitive advantages Romanian companies need in order to survive on the
market. The disparities between research and development equipment available in Romania
and that found in more developed EU countries should be minimized as soon as possible.
Renewing this equipment, especially for universities and state controlled research centers is a
daunting task, especially given the fact that Romania spends only about 650mil or 0.54% of
GDP on R&D (figure 3.1). According to the 2000 Lisbon Agenda, which was ratified by the
parliament, Romania should aim at spending 3% of GDP on R&D activities but given the
current economic crisis, this objective seems impossible even for a medium term effort.
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The Evolution of Researchers:
Because the R&D field is chronically underfinanced in Romania, the number of
researchers has dropped constantly during the past years, while the average age has gone up at
an alarming rate Low wages, material resources which are completely inappropriate in order
to obtain performance, as well as opportunities provided by Research programmes run byother countries have gradually led to an increase in the average age of the R&D highly-
qualified staff, so that approximately 60% of the total number of researchers are over 40 years
old. A lot of skilled young researches opted to leave Romania and work abroad because of the
better conditions offered. Currently the share of R&D personnel in the total active population
is still low: 4.81 R&D personnel per 1000 employees and 3.13 researchers per 1000
employees. (figure 3.2)
Romanias R&D Policies 2007-2013:
According to the principles set up by the Lisbon Strategy, between 2007-2013, policies
related to science and technology are considered key instruments for the future development
of the EU. The essential role research and development plays in offering competitive
advantages has been recognized and confirmed by the European Commission many times.
In Romanias case, quickening the enhancement of economic competitiveness is a post
EU integration requirement which has been set up in order to ensure that Romania will surpass
the technological disparities it currently faces as compared to the rest of the EU member
states. From this perspective, Romania should be directly concerned with improving the
competitiveness of the innovation and R&D systems which should provide the necessary
infrastructure for:
The internal growth of scientific technical competency sources which can assure
development of high level equipment and technical specifications, necessary for
developing the advanced technology fields of the economy.
Enhancing the degree of assimilation of knowledge, services and advanced
technologies related to the general economic environment in order to cope with the
technological advancements happening at European and international levels. The
timely assimilation of such knowledge, services or technologies will ensure durable
growth in terms of economic competitiveness.
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The most important R&D policy that could be found related to Romania is the National
Strategic Reference Framework 2007-2013 (NSFR) NSRF is implemented through
Operational Programmes under Objectives Convergence and European Territorial
Cooperation. The key aims of the National Strategic Reference Framework 2007-2013
(NSRF) are to strengthen the strategic focus of Romanias Economic and Social Cohesion andRegional Policies and to make the correct and appropriate linkages to the European
Commission policies, notably the Lisbon Strategy, which builds policies for economic growth
and the creation of jobs. The NSRF has its genesis in the National Development Plan (NDP)
which was developed as a tool to guide National, European Union (EU) and other funding
sources available to Romania. It justifies and prioritizes public investments related to the
European economic and social cohesion policy and defines Romanias multi-annual strategic
planning and financial programming. The NSRF is also correlated with Romanias 2007-2025
Strategic Concept of Spatial Development and Reintegration in the European Spatial
Structures. The NSRF demonstrates how Romania intends to build environmental
sustainability and equality of opportunity to fight social exclusion into the strategies. The
NSRF has six priority axis:
Priority Axis 1: An innovative productive system
Priority Axis 2: Research and Development for competitiveness
Priority Axis 3: Information and Communication Technology for private and public
sectors
Priority Axis 4: Increased energy efficiency and sustainable development of the
energy system
Priority Axis 5: Romania as an attractive destination for tourists and businesses
Priority Axis 6: Technical Assistance
R&D and the educational field:
Universities are fundamental for integrating advanced research with education. They
have a decisive role in the dissemination of knowledge at a social and economic level.
Therefore, universities are very important in promoting a knowledge based economy.
Investing resources in order to help universities pursue research ambitions can contribute to
the achievement of the objective of creating a knowledge based economy in Romania.
One of the policies pursued in the last few years by the Ministry of Research and Education
was that of developing the R&D specific infrastructure in order to lower the disparities in
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terms of research equipment between Romanian research centers and the rest of the EU. This
objective was pursued in a few distinct stages starting from the existing human potential and
the prior performance related tot eh R&D field:
During period 1998-2002, a number of research grants have been given for projects
related to Research centers for multiple users. These centers were located inuniversities and were financed by the World Bank. The result was the creation of 34
centers in 15 universities.
During period 2000-2004, The National Plan for R&D and Innovation, which is the
main financing instrument in the R&D field has set up a number of excellence centers
promoting R&D activities in certain key fields.
The excellence centers were set up based on previously successful R&D initiatives coupled
with updated and modern strategic development plans. The states contribution within these
excellence centers amount to 30% of total costs, the financing coming from various EU action
plan programmes.
Conclusion regarding Romanias R&D performance:
With a delayed start, Romania is undergoing a fast restructuring period that has been
accelerated by the European integration process and the impact of structural funds. In search
for a frog leap, the R&D system has received a credit of a consistent public spending, which
will be managed under a new strategy. This attempts to recover the currently lost connectionbetween the business and research sectors and to regain the brains in terms of knowledge
production. The non-research push for innovation is still unclear, as no fiscal or other
horizontal incentive has been put in place.
III.2. Economic developments prior to the financial crisis
Brief History:
The Romanian economy has been transformed over the last decade, experiencing
unprecedented rates of growth in productivity, employment and living standards. Like any
other economy in the region, the advances in science and technology are having a significant
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impact on virtually all aspects of Romanian society and economy as a whole and have,
compared with growth in domestic services, been responsible for much of the increased
prosperity of recent years.
Lets begin with a short resume of the last years. After Romania managed to avoid
default in 1999 with the help it got from the IMF, public debt in Romania as a percentage ofGDP has been relatively low during the last years. Compared to countries from Western
European government debt in Romania and budget deficits can even be considered modest.
The budget deficit fluctuated around 2% of GDP after 2000 (figure 3.3), while the public debt
of Romania measured as a percentage of GDP has been even shrinking, from 26% in 2000 to
some 12.40% in 2006. This is mainly because the GDP has been growing at a much faster rate
than public debt. Those figures were perfectly fine even with the stability and growth pact of
the EU, even though, during the last years the EU urged Romania not to loosen its fiscal
policy.
On the other hand, the problem here (when only focusing on the good looking figures)
lies in the method of measurement in combination with an additional factor, the weak tax
collection in Romania. Romanias GDP (figure 3.4) experienced strong growth in recent years
(up to over 8% in 2008) and grew even stronger than public debt, which in absolute terms also
has been growing, though, at a slower pace. One could assume, that this way sustainability of
debt could be taken as granted (as a rule of thumb), as public revenue should increase
proportionally with GDP growth and money could be paid back in the future. However, this
way of reasoning has not been applicable in Romania. Romanias fiscal sector had to face
decreasing revenues all over the last years and an eroding tax base, even though, together with
GDP growth, also employment in Romania was on the rise. The tax reforms which have been
introduced so far yielded only marginal increases and could not make up for the weaknesses
characterising the tax collection system and the still negative impact of high social
contributions. Romanians have always been inclined towards favourising tax evasion and the
propensity to activities in the shadow economy (estimated to be somewhere around 30% of
GDP) might play additional roles.
Hence, we can conclude, that even if other countries might have more debt, both
absolute and relative to GDP, they usually have also better prospects to pay the debt back.
Romania should urgently revise its fiscal code to the core, and it should introduce more severe
punitive measures for those who are found guilty of tax evasion or other fiscal crimes.
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The notions mentioned above are also underpinned by the way Government spending
in Romania is often allocated. Government spending lacks essential planning and in the
because of this it has been largely allocated to current spending, rather than to badly needed
long-term investments, like infrastructure or other, competition rising measures. Last years,
for example, Romanian public sector employees, especially teachers and professors claimed a pay increase of 50% and in the end, they were granted increases of up to nearly 30%
(according to the salary level). While much needed long term-investments in education
(increasing quality and quantity) would have been a good decision, even at the cost of higher
public debt, such populistic measures seem at the current economic stage of Romania
desirable, but out of place.
Another problem is the fact that public debt in Romania is mainly externally financed.
The biggest share of external debt in Romania is held by the private sector, though. This is
because of the surge in consumption characterizing Romania, which is often credit financed.
Just like government debt, this is mainly external debt. And even though, this problem here
lies mainly with the private sector it could easily have public consequences. Due to the rather
unforeseen financial crisis investors trust in emerging markets in general, and in particular
Romania is in decline, while exports tend likewise to decline. This is true for Romania, which
is deeply involved in the strongly affected automobile industry, though Dacia has some fine
sales due to its cheap vehicles. As a consequence, the anyhow deeply negative current account
of Romania is set further under pressure what again detracts investors trust and makes
external sources for financing, both private and public debt harder and more expensive to
access.
III.3. Romanias Current Situation
When talking about the public debt and external debt of Romania we have to face a
two-way truth. Firstly, the public debt of Romania is rather low, by both international and
European standards. The same is true, second, for external debt. On the other hand,
newspapers all over the world reported that Romania was in need of a loan in order to avoid
national bankruptcy and external help was needed in order to avoid default. The International
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Monetary Fund, IMF, and the EU are the fitting institutions in this regard. The IMF lent
12.95bn euros, the European Union provided 5bn euros and the World Bank lent 1bn euros.
The European Bank for Reconstruction and Development (EBRD) is to invest up to 1bn euros
in Romania over two years. Romania is the third EU nation to be given IMF aid recently, after
loans were given to Latvia and Hungary. The IMF measures under the plan are aimed atstrengthening fiscal policy further to reduce the government's financing needs and improve
long term sustainability, thus preparing Romania for eventual entry into the eurozone.
In just a few months, Romania's economic fate has turned. From a country which last
year registered the EU's highest growth rate, it is now losing thousands of jobs mainly in the
chemical and steel sectors, and facing the collapse of a property boom. After an election year
in 2008 the budget deficit reached 5 percent of the gross domestic product (GDP) at yearend.
Now the country has to drastically cut spending and find solutions to limit the income drop
considering the slight chance of an economic advance this year.
The European Commission's prognosis pinned the budget gap at 7.5 percent of the
GDP this year, without including the spending cut measures. The government has targeted a 2
percent budget deficit this year but in a scenario of a 2.5 percent economic increase. Instead of
focusing on narrowing the budget deficits during the years of economic advance, the
government spent massively. The budget deficit should have been widened only during a
crisis when fiscal measures are required to prop up the economy. About half of the EBRD loan
would be dedicated to the financial sector, with the remainder invested across the broader
economy, including in the corporate, energy and energy efficiency and national and municipal
infrastructure sectors.
The Romanian economy shrank 6.4% in first quarter 2009 compared with the first
quarter of 2008, confirming that the country had entered a recession. Romanian gross
domestic product contracted 3.4 percent in the final quarter of 2008, according to the statistics
institute. Recession is traditionally defined as two consecutive quarters of negative growth.
The agriculture sector registered a 7.6 percent decline in activity in the first quarter and the
industrial sector 1.4 percent.
The Romanian government has borrowed close to 20 billion euros from international
financial institutions in order to stem the effects of the global financial crisis. But few in the
country seem to know precisely how the money will be used and whether it will have a more
positive than constricting effect. The International Monetary Fund (IMF) announced Mar. 25
it would grant a loan of close to 13 billion euros to Romania. The country is to receive another
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7 billion euros from other lenders, such as the European Union (EU), the World Bank (WB),
and the European Bank for Reconstruction and Development (EBRD). The money is expected
to come in over the next two years. Romanian authorities have negotiated to repay it by 2015,
at an interest rate of 3.5 percent annually.
After Hungary, Belarus, Ukraine, Latvia and Serbia, Romania becomes the sixthcountry in Eastern Europe to borrow money from the IMF in order to tackle the effects of a
financial crisis that originated in the U.S. and Western Europe, and spread eastwards thanks to
the economic liberalisation intensively promoted in the region since 1989.
The global financial crisis has taken its toll on the Romanian economy, which has
grown mostly on the basis of increased consumption over the past decade. The threat of
redundancy looms large, in both the private and the state sectors. The housing market has
slowed down, and many construction sites for apartment buildings and luxury residential
complexes have been left abandoned. Romanian producers have also been hit, since the major
trading partner of the country is the rest of the European Union.
The banking sector, made up mostly of Western European banks, has become reluctant
to give out loans. This is the main purpose for which the IMF money is to be used, according
to official statements. The idea is that IMF money would allow the National Bank to soften
requirements on reserves to be deposited by banks for the credits granted, in turn making them
more inclined to public lending.
Currently, commercial banks are required to deposit in the National Bank reserves
representing 40 percent of the value of loans in foreign currency and 18 percent for loans in
the national currency. Following the IMF deal, the reserve requirements would be reduced
very gradually, and starting with those for foreign currency, where the market is less active.
The billions borrowed by Romania are additionally supposed to help stabilise the
national currency. Romania is much more integrated in the European and global economy
today than ever before. A depreciation of the currencies in the countries which have still not
adopted the euro (like Romania) would cause a chain reaction, negatively affecting trade
between these countries.
The IMF decision to provide this money for Romania takes into consideration the
larger picture, rather than only Romania's specific situation, and this is how we can account
for the very big amount granted.
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While the IMF deal is usually considered, both in Romania and at the EU level, a
necessary boost to help the country avoid a deep recession, there is some doubt whether the
loan is appropriate.
III.4. Measures adopted to tackle the financial crisis
After the European Commission expressed concern regarding the need for anti-crisis
measures, Prime Minister Popescu-Triceanu asked his ministers on 17 November 2008 to
start thinking about measures to support the national economy and to have them ready by the
following cabinet meeting; the prime minister never mentioned the word crisis.
The proposed plan of measures was going to inject some 10 billion into the economy,
including tax incentives, such as a 10 percentage point cut in social security contributions, tax
exemptions for reinvested dividends and a 5% tax bonus for the timely payment of taxes.
However, as soon as it was appointed in December 2008, the new government found
that the budget deficit for the 2008 financial year was in excess of 5%, as a result of overdue
payments accumulated by the previous government.
Anti-crisis measures announced by government:
- investments worth 10.2 billion or 20% of all budget spending and 7% of gross
domestic product (GDP) for infrastructure works, and the allocation of an extra 2 billion to
pay for the outstanding debts of the previous government;
- tax exemptions for reinvested profits, effective from the second quarter of 2009
following a motion by the social partners;
- support for small and medium-sized enterprises (SMEs) through a guarantee fund for the
loans granted to SMEs and through the capitalisation of two banks following a motion by
the social partners;
- improved mechanisms for absorbing European funds, accelerated fund drawing
procedures, the promotion of public-private partnerships and the elimination of bureaucracy
following a motion by the social partners;
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- an extension of the unemployment benefit period by three months, as well as an
exemption from taxes and charges for technical unemployment benefit that is, when
employers temporarily suspend workers;
- co-funding of 50% towards continuing vocational training for unemployed people and
employees;- legislation regarding the minimum welfare pension;
- consultation, after 15 April 2009, with the social partners on matters related to pay
increases and the law regarding standard principles of wage formation for public servants;
- a moratorium for 2009 on the salaries of high-ranking civil servants and public officers,
affecting about 7,000 persons.
III.5 Conclusions
It is obvious that the almost inexistent efforts undergone by the Romanian government
towards making progress in the area of knowledge based economy have had little quantifiable
effect in minimizing the impact of the financial crisis in Romania. The country was in a bad
shape to begin with when the crisis struck. Although it had very strong growth in 2008, the
budged deficit remained high and infrastructure investments failed to show results. Given this,
it is rather remarkable that Romania managed to ride the storm so far without being forced to
implement some radical measures such as neighboring Hungary for example.
Seeing and understanding which were the main causes and effects of the financial
crisis on the macroeconomic development of Romania and Ireland, only strengthened my
belief that a microeconomic comparison should also be performed if we are to have a full
understanding of the way the financial crisis is affecting our lives. Such a comparison is being
performed in chapter IV.
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CHAPTER IV: Microeconomic situation. Case Study: AA
Company
Microeconomics has always been the more tangible for public perception than
macroeconomics because it influences peoples lives to a much greater extent. Developments
in the microeconomics field eventually transfer to the macroeconomics field.
In order to best describe the impact of the financial crisis on a microeconomic level in
Ireland and Romania, I decided that the best approach would be to compare two local
subsidiaries of the same company. Because of confidentiality related issues, the firm will
receive a generic name AA Company but the actual figures used in the case study are closely
and proportionally linked with the real situation. The case study will focus on the way the two
subsidiaries are trying to improve their activity and market position during the current
financial crisis.
AA Company is one of the largest professional services firms in the world. It is present in
over 150 countries, employing over 100,000 people and generating yearly revenues totaling
28bn. Professional services are infrequent, technical, or unique functions performed by
independent contractors or consultants whose occupation is the rendering of such services. AA
Company has three main service lines:
Assurance (financial audit)
Tax, (international tax planning and compliance with local tax laws, human resourcing
consulting)
Advisory - mainly consulting activities which cover Strategy, Performance
Improvement, Transactions Services, Business Recovery Services, Mergers &
Acquisitions and Crisis Management in a range of specialist areas such as
accountancy and actuarial advisory.
The company is organized as a limited liability partnership. The legal structure of a
limited liability partnership is very different to that of a company, and as such the global firm
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is in fact a collection of member firms, that are run autonomously in their respective
jurisdictions. Because of the scale of services offered by AA Company, we will only be
focusing our analysis on its Advisory department. About 4.9bn out of the total 20bn in
revenues is generated by the companys advisory service.
During uncertain and volatile times it is important to make tough decisions early. Here are10 points that will helpAA company focus on key value drivers and risks across their business.
The 10 points are structured in Similarities and Differences between the practices in
Ireland and Romania. The future holds success for those who best position themselves to take
advantage of the eventual upturn.
IV. 1. What is AA companys real situation?
Similarities:
During an economic downturn the companys situation is of a particularly volatile nature.
It is critically important to work with an exact analysis of the real situation, not with best
estimates. When analysingAA Companys market position, we will focus particularly on:
Business partners (banks, etc.): Do they have correct information about the
companys situation and plans? AA Company has always been very open and
transparent in its relationship with business partners.
Due to its reputation and because building a relationship based on trust is extremely
important,AA Company always makes sure that it informs its business partners of all
relevant aspects as soon as it is needed. This ensures that AA Company is treated in
turn as a real partner and it benefits from a fair treatment at all times.
Competitors: Will they change its product or services portfolio, lower prices or
establish strategic partnerships? It is obvious that all companies are trying to position
themselves as best as possible during these turbulent times. Companies working in the
professional services field are among the fastest to adapt to new economic conditions.
That is why, it is obvious that AA Companys competitors will try to focus on offeringmore crisis oriented products, lower their prices in order to accommodate clients
needs and establish strategic partnerships which will allow them to have a competitive
edge.
Customers: will they prefer a cheaper version of the product, buy a smaller volume of
the same product or service or will they look for brand new alternatives? It is
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extremely difficult to maintain the same fees which were in place before the financial
crisis. This is mainly because many of the companies have completely abandoned their
consulting budget, by reducing it to 0; which means that only companies in great need
of reform will spend money on consultancy services. Lower demands means that the
suppliers, such as AA Company will have to lower their fees. It is difficult to findalternatives for good quality advisory services, however, many companies might try to
call upon smaller firms to provide them with consultancy rather than large consecrated
and rather expensive companies.
Suppliers: Are your contractual terms favourable? Even though AA Company is
entirely focused on providing services, its main assets being people, it still has some
suppliers which generate an important amount of costs. The relationships with these
suppliers needs to be reevaluated and contracts for rent, cleaning services etc should be
revised in order to make sure that they reflect the realities found on the market.
Based on quality data, AA Company will model a range of financial, operational and
workforce scenarios that reflect the potential impact of the downturn on the business. AA
Company is prepared to adapt them as needed based on market changes and explore their
strategic options as they go.
Differences:
Business partners The similarities section outlined the fact thatAA Company
has anexcellent relationship with its business partners. However, AA Company has only set
up its activities in Romania in 1991, while it operates in Ireland since 1978. Because of
the fact that the firm is older in Ireland, it has long lasting very strong relationships
with its business partners. The Romanian subsidiary ofAA Company doesnt have such
long term relationships with its most important business partners which means that
trust levels are not as high as they are in Ireland.
Competitors: AA Company is a market leader by market share in Romania. This
means, that the company has to find ways of at least keeping its good market share,
and not allowing its customers to slip to competitors. AA Companys subsidiary in
Ireland however is positioned on the 2nd place in terms of market share. This means
that it has to be more aggressive in attracting customers from its main competitors.
Customers:AA Company had a large costumer turnover in Romania lately, this means
that the company didnt have time to develop strong relationships with its clients. Not
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having strong relationships means that customers will be more likely to switch to a
competitor which offers them the same quality of services at a lower price. However,
the Irish branch ofAA Company has a very important core of customers with whom
they have collaborated in the past two decades. This core of important clients is
unlikely to shift anywhere even if marginally better financial terms would be offered. Suppliers: The Romanian subsidiary of AA Company incurs its highest supplier costs
with rental expenses. The renting contract has been renegotiated at the beginning of the
year in the firms favor. AA Companys Ireland offices are however mainly owned by
the company, this means that supplier cost indicators are significantly lower in Ireland,
which means they wouldnt be able to obtain a very significant reduction in costs by
renegotiating its supplier contracts.
IV.2. Performance: Act decisively, based on reliable data
Similarities:
Successful players demonstrate flexibility and agility. Now more than ever, AA
Company needs to have access to high quality, timely management information and
appropriate key performance indicators (KPIs).
History shows us that businesses that succeeded during downturns were those that acted
decisively, managed to mobilise their internal resources and took advantage of current
uncertainties, weaknesses or the slow reactions of their competitors:
During times of crisis, AA Company needs strong leaders are your key posts staffed
appropriately? Because of the fact thatAA Company is one of the leading professional
services firms in the world, it managed to create a very strong brand name, attracting
bright minds throughout the world. By using innovative human resource motivation
techniques, AA Company manages to retain its top talents. Key positions are occupied
by highly qualified individuals who are constantly assessed and their performance is
thoroughly monitored.
Is your work productivity at maximum? What are your internal reserves and how can
you utilise them? The advisory department, having a project based working schedule,
isnt exactly the best example for work productivity excellence. The average staff
occupancy levels are at around 68%, which means that out of the total time spent at the
office, only 68% is client chargeable time. However, such levels are understandable
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and justifiable by the fact that almost all the staff working in the advisory field is
comprised of experts which have very expensive hourly rates. Another point which can
corroborate this is the fact that people in the advisory department have a lot of internal
administrative duties to take care of that take time to complete.
What are your internal options for increasing margins? AA Company has alreadyslashed employee bonuses and is on the lookout for what the competition does in terms
of salaries. The firm has also slashed employee non cash related benefits, such as
fitness memberships and optional health insurance.
Differences:
Since Irelands macroeconomic situation has deteriorated to a much greater extent than
Romanias, AA Companys local subsidiary there was forced to take more radical measures
concerning their employees. They operated a 10% across the board salary reductions, which
means that all employees receive10% less money than they did 1 year ago. Because of these
actions, the company is at risk of losing possibly key employees disgruntled by the salary
reduction.AA Companys subsidiary in Romania didnt operate any pay reductions yet, which
means the company is still safe from any employee dissatisfaction caused by such a measure.
IV. 3. Manage your cost