Portugal Politics February 2016


Portuguese Parliament approves 2016 anti-austerity draft budget; financial markets react positively

On 22 February, the ruling minority center-left Socialist Party (PS) government led by Prime Minister António Costa, approved its 2016 anti-austerity draft budget backed by the Left Bloc (BE), the Communists and the Greens. The vote by the Parliament followed the European Commission’s (EC) approval of the budget, despite warnings that the budget was at “risk of non-compliance” with the European Union’s (EU) fiscal rules. In a couple of last-minute adjustments, the government cut its budget deficit target from 2.6% to 2.2% of GDP for 2016 in response to the EC’s warning, assuming 1.8% GDP growth in 2016. The budget deficit came in at 4.3% in 2015 and largely exceeded the EU’s 3.0% limit.

While the budget aims to reverse some of the austerity measures that were introduced during the four years of crisis that had led to an international bailout, it increases several indirect taxes in order to comply with European Union fiscal rules. For example, while on one hand the government is planning to reverse some pension cuts, tax on employee incomes and restore civil servants’ salaries, it would also hike taxes on fuel, cars, tobacco and introduce a special bank levy.

The budget is thus expected to have a fragile equilibrium, and it is unclear how credible markets will perceive it to be, as the government is trapped between electoral promises and commitment to fiscal consolidation. Paula Gonçalves Carvalho, Chief Economist at Banco BPI said that, “we consider that there are some risks, especially related to the evolution of the external economies and prices’ behavior.” Carvalho explained that the budget includes some assumptions that Banco BPI considers to be slightly optimistic, especially regarding exports, investment and GDP deflator, which might destabilize the budget’s equilibrium.

Carvalho went on to say that they, “have some doubts regarding the projection for public expenditure, especially of personal expenditure, that may be too conservative given the reversal of public workers wage cuts (to be completed next October). Having said this, Portugal has a comfortable liquidity buffer, the Treasury has already paid back more than 30% of the IMF loan (total of 26 billion euros during the external assistance program) and the expected issuance of MTL bonds until the end of the year is circa 12 billion euros (according to IGCP), quite manageable considering also the supporting action from the ECB in the secondary market.” The bank expects that Portuguese bond spreads should remain contained as, “economic data has been positive and as our scenario is not very far from the official assumptions,” but that the markets are likely to continue to monitor both economic data and the execution of the budget very closely, which could potentially impact Portugal’s risk premia.

Following the budget’s approval, Portuguese bond yields fell faster than those of other Eurozone countries and have remained relatively stable ever since. The additional measures adopted by the Parliament in order to comply with the EC’s financial targets have been welcomed by the markets. In addition, the adoption of the 2016 budget has been seen as a relief as it reaffirmed the minority government’s coalition strength and stability.

The Bank of Portugal expects the economy to expand 1.9% in 2016. The panel of analysts we surveyed for this month’s Consensus Forecast left their 2016 GDP growth forecast unchanged at 1.6%. For 2017, the panel foresees the economy growing at a slightly-higher 1.8%.

Author:, Economist

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