Press Release No. 19/275

IMF Executive Board Concludes 2019 Article IV Consultation with Portugal

July 12, 2019

On July 8, 2019, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation [1] with Portugal.

Growth in 2018 eased compared to 2017 in part due to weaker economic activity in Europe. Unemployment is at a 14-year low, driven by strong employment growth, especially among the long-term unemployed. Growth in 2019 is expected to moderate to 1.7 percent and converge in the following years to its medium-term potential. Consumer price inflation remains subdued but is expected to gradually increase in coming years as wages picks up. The current account is expected to post moderate deficits in coming years.

The headline fiscal deficit improved in 2018, reflecting smaller one-off expenses, cyclical tailwinds, and a tight budgetary execution. It is expected that the government will meet it’s 2019 budget deficit target, despite higher than expected transfers to Novo Banco, as a result of lower-than-budgeted capital spending and strong revenues. The Medium-Term Objective under the Stability and Growth Pact is expected to be met in 2020. Public debt is on a firm downward trajectory and is projected to reach close to 100 percent of GDP by 2024.

Banks have made significant progress in strengthening their balance sheets, with non-performing loans falling significantly in recent years. Nevertheless, troubled legacy assets remain high by European standards and profits moderate. No significant acceleration in credit growth is expected.

Executive Board Assessment [2]

Executive Directors welcomed Portugal’s improved fundamentals, noting that the current real GDP level has now surpassed its pre-crisis levels, the unemployment rate declined to its lowest level in more than a decade, and that structural reforms have paid off. Directors, however, agreed that downside risks have increased amidst a less favorable global environment. They, therefore, stressed the need for continued efforts to strengthen the resilience of the economy and the financial system, including addressing the still elevated public debt level and non-performing bank loans. Implementation of further structural reforms to support potential growth, raise domestic savings and improve the business climate remains a priority.

Directors commended the authorities’ commitment to sound public finances and fiscal consolidation, which resulted in reductions in the fiscal deficit and debt ratio in recent years, the repayment of the IMF loan ahead of schedule, credit rating upgrades, and substantially lower borrowing costs. Notwithstanding these achievements, Directors generally stressed the need for accelerated debt reduction to rebuild fiscal buffers to protect against unanticipated shocks as well as to address the fiscal impact of Portugal’s aging population. In that context, Directors particularly welcomed the authorities’ commitment to use revenue windfalls to accelerate public debt reduction. While acknowledging numerous efforts already taken to improve the efficiency of public spending, Directors called for further examination of the quality and composition of spending, with a view to shift spending toward greater public investment. Expenditures on pensions, wages, and health also deserve closer examination.

Directors agreed that banks’ balance sheets had improved significantly in recent years, and especially commended the marked decline in non-performing loans. They noted, however, that modest profitability remains a concern, and encouraged further efforts to improve asset quality, efficiency, and governance. Directors also called for continued vigilance of mortgage market developments and for the authorities to stand ready to adjust macroprudential policies if needed. With respect to the financial supervision reform bill, Directors encouraged the careful consideration in Parliament of the concerns raised by the ECB, Banco de Portugal, and other domestic supervisors, and a continuing search for consensus, to ensure that the bill guaranteed the independence of supervisors, it was consistent with the European institutional framework, it would ensure timely and well-informed decision making, and it was cost-effective.

Directors emphasized the need to boost potential growth and productivity, to both reduce balance sheet risks and accelerate the pace of convergence to euro area living standards. They noted that to meet this goal, investment spending needs to increase, supported by an improved business environment, greater competitiveness and innovation, and a more efficient use of labor. To avoid the re-emergence of external imbalances, domestic savings will need to increase as well. In this regard, Directors suggested that the authorities explore ways to encourage complementary second- and third-pillar pension schemes.