Good Progress But Testing Times Ahead For Portugal

With program off to a good start, Portugal receives €2.9 billion

Renewed efforts and bold measures should ensure 2012 fiscal target is met

Reforms to boost growth and competitiveness key to ensuring recovery

The program is broadly on track, according to Poul Thomsen, IMF mission chief for Portugal. “The 2012 budget is in line with the program’s ambitious targets for fiscal consolidation, financial sector policies are being implemented as agreed, and the structural reform program is also off to a good start,” he said in a conference call.

However, the economy, which is expected to contract by 3 percent in 2011, may be heading into a more difficult period because of the continuing sovereign debt crisis in the euro area. “The main risk is that Portugal will face stronger headwinds from a more difficult situation in Europe,” Thomsen said.

The economic contraction is set to deepen in 2012, reflecting delayed fiscal adjustment from 2011, a decline in private demand reflecting cuts in public sector wages, and a significant slowdown in external demand. Overall, the IMF is expecting the economy to contract by 3 percent, with risks skewed to the downside. A cyclical recovery is expected to take hold only in the first quarter of 2013, picking up pace through 2015.

On December 19, the IMF’s Executive Board approved the second review of Portugal’s economic program and released a tranche of €2.2 billion under the country’s €26 billion Extended Arrangement with the IMF.

Catching up on fiscal consolidation

The government is expected to meet its 2011 headline deficit target of 5.9 percent of GDP only through voluntary transfers from bank pension schemes to the social security system. While this is clearly a one-off measure that will not improve the underlying fiscal position, the 2012 budget seeks to make up all the lost ground, and the government is still aiming for a deficit target of 4.5 percent of GDP for next year.

“The good news is that the government is catching up and the 2012 budget gets Portugal back to the original fiscal targets, and does so through high-quality measures,” Thomsen said. As part of its drive to reduce spending, the government has made significant strides in terms of improving revenue administration and restructuring public administration. Other areas, such as public financial management and reform of state-owned enterprises, have faced delays, but these are now being addressed.

“We all know that there are problems...