• Bulgaria and Romania acceded to the EU on 1 January 2007, signifying the sixth round of enlargement of the Union.
  
  
• Not only increasing economic activities stemming from closer integration with the EU have spurred demand in both countries, but adoption of the EU's common external trade policy and measures, especially tariff alignment, also facilitates imports.
  
  
• Despite rejection of the draft EU Constitutional Treaty in 2005, the EU has decided to press ahead with further enlargement at the same time as the necessary institutional reforms.

The EU turned another page in its history on 1 January 2007, when Bulgaria and Romania formally joined the Union, the sixth round of enlargement since its inception in 1957. The EU is now a trading bloc containing 27 Member States, with a total population of over 480 million, and a combined GDP of around US$13 trillion, roughly on a par with that of the US.

The enlargement process has evidently stimulated economic activities in Bulgaria and Romania, and in turn whetted an appetite for imports. On one hand, increases in foreign investment, especially in manufacturing, elicit strong demand for industrial goods. On the other hand, given rising incomes of Bulgarian and Romanian consumers, demand for higher-quality consumer goods, which cannot be met by local production, should be well sustained.

On regulatory issues, the new Member States have aligned their import tariffs with those of the EU upon accession to the Union. This has resulted in tariff reductions for a wide range of consumer goods, such as garments, precious jewellery, certain audio-visual products, watches, and toys and games. The two countries are further obliged to adopt the EU's technical standards, and harmonisation of technical standards should enhance market access of Hong Kong products, especially for consumer electronics and electrical appliances.

Yet the two countries have also adopted the full set of the EU's trade measures against products originating from the Chinese mainland, including not only the EU's anti-dumping measures against mainland-origin products, but also quantitative restrictions on textile and clothing products, although such quotas are set to be removed completely by January 2008.

To tap emerging opportunities in Bulgaria and Romania, Hong Kong exporters should be patient and persistent in identifying potential buyers, while offering price-competitive, quality goods, accommodating small orders and managing payment risks. They are also advised to keep an eye on the EU's enlargement process. Despite rejection of the draft EU Constitutional Treaty in 2005, the EU has decided to pursue institutional reforms and further enlargement concurrently, with Croatia being the next potential EU Member State.


Background

The EU marked another historic milestone on 1 January 2007, when Bulgaria and Romania formally acceded to the Union. Founded by Belgium, France, Germany, Italy, Luxembourg and the Netherlands in 1957, the EU has so far experienced six rounds of enlargement. Denmark, Ireland and the UK became Member States in 1973, trailed by Greece in 1981, Portugal and Spain in 1986, and Austria, Finland and Sweden in 1995. Before the accession of Bulgaria and Romania, the EU first expanded into Central and Eastern Europe as well as the Mediterranean in 2004, with the joining of Cyprus, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia and Slovenia.

As it now stands, the EU is a trading bloc containing 27 Member States, with a total population of over 480 million, and a combined GDP of around US$13 trillion, roughly on a par with the US. While given the small size of Bulgaria and Romania, which constitute less than 1% of the EU economy, the latest round of enlargement is only expected to have marginal impact on the EU's overall growth prospects, the two new Member States have brought some 30 million people in the EU fold, creating additional opportunities for Hong Kong companies committed to explore new markets in the Union. Of particular interest to Hong Kong exporters, Bulgaria and Romania have now become part of the single European market, and adopted the EU's external trade policy and measures. But the fallback is that the new Member States have also adopted the EU's anti-dumping measures and quota restrictions against mainland-origin products.

Economic Developments in Bulgaria and Romania

Preparations for EU Membership

Bulgaria and Romania applied for EU membership in 1995, and accession negotiations were opened in 2002. To fulfill the criteria for accession to the EU, both countries have long been adapting their legislation to EU laws and regulations in relation to the free movement of capital, company law, competition policy, taxation, industrial policy and so forth. They have undertaken market-oriented reforms to restructure their economies, especially through privatisation that has made the private sector the major impetus to growth. In Romania, for instance, the private sector now accounts for about 55% of the economy, and absorbs over 50% of the workforce. Such transformation and restructuring have greatly strengthened business confidence and economic efficiency. This has in turn translated into greater business investment, which has become a stimulus to consumption and overall growth in both countries. Not surprisingly, both new Member States have consistently registered economic growth well above the EU average.

Developments in 2006

Evidently, the economies of Bulgaria and Romania have been enhanced by their accession to the EU. In Bulgaria, GDP is expected to have grown by 6% in 2006, on top of the 5.5% growth in 2005. This expansion was chiefly underpinned by particularly solid investment, as well as an acceleration of consumer spending. While rising orders from the EU also boosted Bulgarian exports, imports surged even faster amid the boom in domestic demand, leading to a further widening of the trade deficit. Likewise in Romania, economic growth quickened last year, with GDP showing an estimated 7.2% vis-à-vis the 4.1% growth in 2005. This rebound was broadly based. On one hand, domestic demand, including both consumption and investment, was robust. Exports, on the other hand, were strong amid a healthy appetite of the EU. But the good showing of exports was unable to offset strong imports stemming from burgeoning domestic demand, and the country's trade deficit therefore continued to increase.

Prospects following EU Accession

For 2007, prospects for both countries will remain decent. The European Commission forecasts the Bulgarian and Romanian economies to grow by 6% and 5.8% respectively this year, as both countries integrate further into the EU. For one thing, higher EU transfers and related EU infrastructure development funds will facilitate economic growth. More importantly, solid investment expansion and sustained economic restructuring will continue to prop up domestic demand, although exports will likely be dragged by slowing demand from other EU Member States. To be sure, Bulgaria and Romania will continue to benefit from a rapid inward flow of foreign capital, which is attracted not only by lower production costs, but also by a liberalising investment and good trading prospects amid their entry into the Union.

It can indeed be argued that the most visible element of Bulgaria and Romania's accession to the EU is the influx of foreign investment. While both countries did not lure much foreign capital in the past, overseas investors have been increasingly attracted by the closer links between the new Member States and the EU, although foreign investment there remains low by Central and Eastern European standards. In Romania, for instance, a number of European and American multinationals have shown their interest in investing in the country. It has been reported that Renault would invest EUR 100 million in a new engineering centre. In addition, Hewlett-Packard would hire 1,200 people at an outsourcing centre in Romania, whereas Amazon would set up another software development centre, creating 600 jobs in the country. Such foreign investment will facilitate the restructuring and enhance the competitiveness of Bulgaria and Romania, boding well for the long-term economic prospects of both countries.

Market Opportunities for Hong Kong Exporters

Rising Demand for Imports

In tandem with the increasing economic and trading activities of the two new Member States, demand for imports has been rising at a dramatic pace. During 2000-2005, imports by Bulgaria grew from US$6,526 million to US$18,243 million, and Romania from US$13,055 million to US$40,463 million, up 1.8 and 2 times respectively in the period, with the EU (especially Germany and Italy), Russia and Turkey being the biggest suppliers. Such increases are, on one hand, due to the growing input demand for production in the countries. In particular, increases in economic activities stemming from inflows of foreign capital, especially in the manufacturing sector, elicit sturdy input demand for industrial goods in both countries. For example, they need to import machinery and equipment, electronics parts and components, as well as textile materials for outward processing.

Increasing business activities alongside closer integration into the EU, on the other hand, also provide a lift to the incomes and living standards of Bulgarian and Romanian consumers. While the per capita GDP of both countries remains low at around 30% of the EU average (on purchasing-power-parity basis), it should be noted that the official figure has understated the actual income level. This is because a substantial portion of business activities and incomes of the private sector are not recorded by the official statistics, as there is a big underground economy in both countries. In Bulgaria, for instance, such unreported activities are estimated to account for 20-30% of the official GDP. Given rising incomes and a desire to improve living standards, demand for higher-quality imported consumer goods, which cannot be satisfied by local production, should be well sustained.

Market Potential of Bulgaria and Romania

Along with the steady expansion of the Bulgarian economy, Hong Kong's exports to the country, despite a relapse in 2005, have largely followed an expansion path in recent years. Total exports to the market rose by 30% to US$48 million in 2006, with electronics taking up almost 77% of the total sales. At the same time, Hong Kong's exports to Romania have performed even better. Total exports to the market jumped by 81% to US$84 million in 2006. Similar to Bulgaria, sales to Romania were dominated by electronics, which constituted 74% of Hong Kong's total exports.

As a matter of fact, the electronics and electrical appliances industries of Bulgaria and Romania command a vast product range, including computers, CDs, telephones, household appliances, as well as medical and scientific equipment. Thanks to foreign investment, production of electronics and electrical appliances has expanded in recent years, and both countries require the support of imported electronics parts and components for production. Meanwhile, finished electronics products are mainly meant for exports, and hence local demand has to be met by imports. During 2006, finished electronics products took up 55% and 40% of Hong Kong's total exports to Bulgaria and Romania respectively. In the same period, electronics parts and components constituted 23% and 34% of total sales to Bulgaria and Romania respectively. In addition, rising electronics and other industrial production has led to a stronger appetite for machinery and parts. In 2006, such items accounted for 14% of total sales to Bulgaria, and 24% of those to Romania.

Also, Bulgaria and, more importantly, Romania have fairly substantial production of clothing. But most of the production involves outward processing arrangements with foreign brands. The finished garments, in most cases, are destined for the EU, especially Germany, Italy France and the UK, without entering the national markets of Bulgaria and Romania. Locally produced garments available for the national markets are generally limited in variety and inferior in quality. There are therefore opportunities for Hong Kong's clothing exports. At the same time, potential also exists for other consumer products, including jewellery, timepieces and toys, as Bulgaria and Romania are still biased towards heavy industries. Moreover, the advent of modern retailing and distribution may provide further stimulus to imported products, although the retail structure there remains underdeveloped vis-à-vis other Central and Eastern European countries. Certain EU retailers, such as Metro, have already established a presence in both countries, while others like Carrefour and Tesco have entered the Romanian market.

Enhanced Market Access to Bulgaria and Romania

Tariff Reductions

Apart from the growing demand in Bulgaria and Romania, adoption of the EU's common external trade policy and measures also facilitates Hong Kong's exports to both new EU Member States. A case in point is tariff reduction, as the original import tariffs of the new Member States were generally higher than the corresponding EU rates. For instance, the average tariff rate imposed by Bulgaria on manufactured products previously was around 8.6%, more than double the 4% average for the EU. Since their accession to the EU, the new Member States have aligned their import tariffs with the EU rates. This has resulted in a lowering of import tariffs for a wide range of consumer products, thus effectively enhancing the market access of Hong Kong products. In both Bulgaria and Romania, the import tariffs imposed on a wide array of consumer goods, such as garments, precious jewellery, certain audio-visual products, watches, and toys and games, were generally higher than the EU rates before their accession to the EU.

Illustrations of lower import tariffs abound. In the case of garments, the average EU rates are 11.6% for knitted items and 11.5% for non-knitted items, compared with the previous corresponding rates of 23.2% and 22% for Bulgaria, and 30% and 30% for Romania. Regarding precious jewellery, the average EU rate is 0.7%, compared with 3.6% and 10.9% for Bulgaria and Romania respectively. With respect to audio-visual products, the average EU rates are 4.6% for sound reproducing apparatus and 2.1% for sound recording apparatus, vis-à-vis 8.7% and 7.5% for Bulgaria, and 42% and 39.2% for Romania. For watches, the average EU rate is 4.5%, compared with 9% and 21% for Bulgaria and Romania respectively. As for toys and games, the average EU rate is 1.9%, compared with 7.6% and 18.3% for Bulgaria and Romania respectively. (Please refer to the Appendix for details.)

Harmonisation of Technical Standards

The two new EU Member States are also obliged to adopt the EU's technical standards, as well as regulations related to health and safety. For years, they have been in the process of adapting to the EU's harmonised European product legislation, which covers conformity assessment bodies, accreditation bodies, standardisation and market surveillance. Products certified in accordance with EU standards are expected to be increasingly recognised by the two countries. Harmonisation of technical standards should thus provide more convenience to Hong Kong exporters, especially those engaging in more technical products like consumer electronics and household electrical appliances.

Prior to the EU's enlargement into Bulgaria and Romania, Hong Kong exporters might be required to obtain separate approvals from the authorities of the two countries, even for products already certified in EU Member States. Some of them also needed to change the technical design of their products due to different technical requirements. The resulting additional costs would undoubtedly reduce their profit margin. In some cases, the different technical requirements had deterred some exporters from selling to the two countries, as smaller markets there could not justify the costs of making a separate technical design.

Additionally, harmonisation is not limited to electronics and electrical appliances, but a wide range of other consumer goods and foodstuffs. As many Hong Kong exporters have already had their products certified to and/or conformable with the EU's standards, they are now able to market the same products in the two new Member States with less or even without additional approval. While facilitating access to Bulgaria and Romania, harmonisation also enables Hong Kong exporters to enjoy more benefits stemming from economies of scale by offering their products to both incumbent and new EU Member States.


New Challenges

Adoption of EU's Trade Policy and Measures

Hong Kong exporters should also take note that the two new EU Member States have adopted the full set of the EU's trade measures against products originating from the Chinese mainland. In particular, the EU's anti-dumping duties against mainland-origin products have come into effect in both Bulgaria and Romania since their accession to the EU. These include electronic compact fluorescent lamps (66.1%) and certain leather footwear (16.5%), which are among the affected products of interest for Hong Kong. Before joining the EU, neither Bulgaria nor Romania had imposed anti-dumping duties on mainland-origin products. As a result, while tariff reductions will certainly facilitate Hong Kong's exports to the new EU Member States, the EU's anti-dumping duties on specific products may more than offset the benefit of enhanced market access. Hong Kong exporters are thus advised to check if the EU imposes anti-dumping duties on their products when exploring the new markets.

Likewise, Bulgaria and Romania have adopted the EU's quantitative restrictions on textile and clothing products upon accession to the EU. Currently, 10 categories of Chinese textile and clothing exports to the EU are subject to the EU's quota restrictions, covering pullovers, men's trousers, blouses, T-shirts, dresses, brassieres, flax yarn, cotton fabrics, bed linen as well as table and kitchen linen, although such quotas are set to be removed completely by January 2008. In view of the enlargement, however, the EU has already raised the overall quota level for imports of textile and clothing products into the new EU in 2007, and the increased quota amounts became effective on 1 January.

In the meantime, although harmonisation of product standards will enhance market access to Bulgaria and Romania, it also means that certain EU restrictions that were not adopted by the two countries have begun to be put in place there. In particular, the EU's Directive on Waste Electrical and Electronic Equipment (WEEE) and the Directive on Restriction of Hazardous Substances (RoHS), the Union's stringent regulatory requirements in relation to green manufacturing, have already been transposed into national legislation in both Bulgaria and Romania. Therefore, Hong Kong companies are required to observe such "new" restrictions when selling relevant products to the new EU Member States.

Competition in Traditional Markets

Apart from Bulgaria and Romania, the EU enlargement will have a bearing on Hong Kong exports to the traditional markets in the EU. Although Bulgaria and Romania became EU Member States on 1 January 2007, free trade between the two countries with the EU has been practically in place since the entry into force of their Interim Agreements with the EU in 1993, under which most of the customs duties applicable in the Union were scrapped immediately, while progressively phasing out the duties and quantitative restrictions on some sensitive products. As a result, both countries have an upper hand over other suppliers in the EU market, and their combined share in the EU's total imports has expanded gradually from 1% in 2000 to 1.7% during the first half of 2006.

Evidently, such market expansion also mirrors the increase in the EU's outward processing activities in the two new Member States. Many EU companies, especially German and Italian manufacturers, have invested heavily in Bulgaria and Romania - much like Hong Kong companies investing in the Chinese mainland and other countries in the region to reap low-cost benefits there. In most cases, while the concerned products, such as machinery and metallurgical products, are of little interest to Hong Kong exporters, electronics and electrical household appliances do overlap with Hong Kong exports. To compound the problem, Bulgaria and Romania also export some other consumer goods, particularly clothing. All this has posed challenges for Hong Kong exporters.

In the face of intensifying competition, Hong Kong exporters have been well tooled up to enhance their performance on quality, price and reliability. Indicative of the sustained competitiveness of Hong Kong exporters, Hong Kong and mainland-origin products together accounted for 14% of the EU's total imports in the first half of 2006, up from 7.9% in 2000. In addition, the scheduled abolition of EU quotas by January 2008 will further enhance the edges of Hong Kong clothing suppliers. But continued integration of Bulgaria and Romania into the EU should, on the other hand, presage increased sourcing from the two countries. Apart from the inherent advantages like geographic proximity and lower cultural barriers, the fast changing consumer market that requires quick response and short delivery lead time has increasingly diverted EU buyers' attention towards Central and Eastern Europe.

Recommended Strategies

Identifying Potential Buyers

Despite their closer integration with the EU, Bulgaria and Romania have remained very much uncharted territories for Hong Kong exporters. While private enterprises proliferate amid economic restructuring in the two new Member States, and hence the number of potential buyers have mushroomed, little is known about their financial background, and most of them are small in size, with little or no experience in trading with Asia in general and Hong Kong in particular. Therefore, in identifying potential buyers, patience and persistence are virtues to rely on.

Meanwhile, in addition to local enterprises, foreign retailers can also be potential customers for Hong Kong exporters. But Hong Kong companies cannot take it for granted that they will automatically receive Bulgarian and Romanian orders from their current contacts. In many cases, these retailers have a separate, if not independent, operation to deal with purchasing for the two markets, due mainly to the differences in consumer preferences from other Member States. Goods for sales in the two new Member States are likely to have different features and, more importantly, lower prices. It follows that Hong Kong exporters should locate the right personnel for selling to the two Member States, while offering the right products that can be saleable there.

Offering Price-Competitive Quality Products

In selling consumer products to Bulgaria and Romania, Hong Kong exporters should be aware that many shoppers there have increasingly focused on higher-quality products, due to increases in income levels and improvements in purchasing power. Yet the income levels of both new Member States are still low even compared with their counterparts in Central and Eastern Europe, making it difficult for general consumers to afford fashionable products at West European price levels. To cope with this problem, Hong Kong exporters can choose to offer Bulgarian and Romania buyers quality products similar to those offered to other European customers, but with appropriately reduced features and product content.

Given Bulgaria and Romania's more and more robust production activities, the industrial markets of both countries should also be a target for Hong Kong companies. In particular, they should focus on the rising demand for machinery, equipment and electronics parts and components. It should be noted that foreign investment plays a significant role in the industries of both countries, and as a considerable portion of industrial outputs are meant for export to advanced economies, stringent quality is a prerequisite for supplying various inputs. But competitive pricing will remain the fundamental factor of success in tapping the markets, as the primary objective of most foreign investment in such production activities is to reduce cost.

Accommodating Small Orders and Managing Payment Risks

With their relatively small market size, especially in the case of Bulgaria, both new Member States are unlikely to place big orders with foreign suppliers. To make inroads into the markets, Hong Kong exporters should thus be ready to accept small orders, possibly along with a wide product assortment and short delivery lead time. More importantly, Hong Kong exporters should pay proper attention to the payment ability of buyers, which are among the major hitches in doing business with the two countries. Seemingly, payment by letter of credit (L/C) is not popular. As such, Hong Kong exporters are required to assess payment risks and consider securing export insurance for their sales to the two markets.

Prospects for Further Enlargement

After six rounds of enlargement, the EU is poised to further expand its membership. Thus far, EU enlargement has proved to be a successful saga. Particularly noteworthy is the accession of Bulgaria and Romania, together with the previous round of enlargement in 2004, which has marked the extension of the EU to Central and Eastern Europe and the Mediterranean. Evidently, the enlargement process has led to increased economic prosperity, higher living standards and greater political stability in the Member States of Central and Eastern Europe and the Mediterranean. Both the existing and acceding Member Sates have benefited from the huge investment flows from West to East, as well as the fast expansion of bilateral trade, bringing direct benefits to the EU as a whole.

Ironically, there have been calls for a suspension of the enlargement process following the intake of Bulgaria and Romania, so that the Union is able to undertake the needed institutional reforms before accommodating more new Member States. These calls are not unfathomable. There are real concerns about the rising tensions in the EU institutional framework stemming from the continued enlargement. It has become apparent that decision making within EU institutions is increasingly cumbersome, voting is more intricate, and reconciliation of diverging national interests is more complicated. To compound problems, there are signs that richer Member States tend to be less willing to finance the Union budget, while greater labour mobility has stirred up political strain. Partly reflecting their concerns about further EU enlargement, both French and Dutch voters rejected the draft EU Constitutional Treaty in 2005*.

As a matter of fact, the EU is not unaware of the problems arising from further enlargement without the necessary institutional reforms. But it also recognises the benefits of continued EU expansion. Under these circumstances, the EU has decided to move ahead simultaneously with institutional reforms and further expansion of the Union. It opines that a new institutional settlement should have been reached by the time the next new Member State is likely to be ready to join the EU. For now, Croatia's entry negotiations are well underway, but talks with Turkey are hindered by several political, social and economic issues. While it is premature to speculate upon when the next enlargement will happen, it looks unlikely that a large number of countries will join the EU in one go. Hong Kong exporters are advised to keep an eye on the EU's enlargement process, as well as the ensuing opportunities and challenges.

Appendix

Selected Import Tariff Rates for Consumer Goods

* Under the current governing treaty of the EU, namely the Treaty of Nice, the EU cannot have more than 27 Member States, as the Treaty doesn't provide the institutional structure to cope with a larger Union. The draft EU Constitutional Treaty should have provided a solution to this problem, but its rejection by France and the Netherlands means that other solutions are required. This could be done either by way of a new EU Treaty, or by way of a revitalised EU Constitutional Treaty.

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