## _cr1277 ## Source details **Canonical URL:** [_cr1277](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2012/_cr1277.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2012/_cr1277.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2012/_cr1277.pdf.json) --- ### Executive Summary - Background: - Early signs that the required economic adjustment is in train. - Elevated and volatile spreads indicating market skepticism about the program strategy. - Program status: - Program implementation remains satisfactory. - All quantitative PCs for end-December have been met. - All but one of the 10 structural benchmarks for the third review were observed, some with minor delays. - Staff supports authorities’ request for a waiver of applicability of the end-March PCs as these are likely to be met. - Overall assessment (2011 outcomes): - Output contracted by 1½ percent in 2011 (a little less than expected). - Underlying fiscal adjustment: 3½ percentage points of GDP excluding one-off transactions. - Current account deficit narrowed to 6.4 percent of GDP in 2011 (from 10 percent of GDP in 2010). - Employment: unemployment rose to 14 percent in Q4 2011; unemployment for ages 15–24 exceeds 35 percent. - Average inflation in 2011: 3.6 percent (compared to 2.2 percent for the Euro area). - Near-term outlook: - Recession set to deepen in 2012 with output projected to fall by 3 1/3 percent. - If 2012 budget implemented as planned, debt to GDP ratio should peak at around 115 percent of GDP next year. ### Recent developments and near-term outlook - 2011 key developments: - Output contracted by 1½ percent in 2011. - Domestic demand declined about 5 percent over 2011. - Exports expanded by some 7 percent in real terms (15 percent in nominal terms) in 2011. - Unemployment rose to 14 percent in Q4 2011; youth unemployment exceeds 35 percent. - Average inflation reached 3.6 percent in 2011; indirect tax increases and administered prices adjustments contributed about half. - 2012 projections and composition: - Growth projection for 2012: -3¼ percent (revised down by ¼ percentage point). - Inflation in 2012 expected: 3¼ percent, with VAT increases and administered price adjustments contributing 2¼ percentage points. - Unemployment projected to average 14½ percent in 2012 (initial forecast 13¾). - Projected compression in imports in 2012: 6¾ percent in real terms. - Projected declines in 2012: private consumption close to 6 percent; investment almost 12 percent. - Growth beyond 2012: staff projects 0.3 percent in 2013 and 2 percent in 2014. - Public debt outlook: - Public debt expected to stabilize at some 115 percent of GDP in 2013, declining gradually thereafter. - Baseline relies on sustaining a primary surplus of over 3 percent of GDP to lower debt to below 80 percent of GDP by 2030. - Interest rate assumed for medium- and long-term borrowing at market access: 7 percent; scenario with interest rates temporarily higher by 400 basis points modeled. ### Fiscal outcomes, targets, and measures - 2011 fiscal outcomes: - Preliminary end-2011 general government deficit: about 4 percent of GDP (against a 5.9 percent of GDP target). - One-off revenues from partial transfer of banks' pension funds: 3½ percentage points of GDP. - Excluding one-off elements, general government structural primary deficit narrowed by over 3½ percent of GDP in 2011. - 2012 fiscal target and composition: - 2012 general government deficit objective: 4½ percent of GDP. - The 2012 fiscal deficit target entails a front-loaded fiscal adjustment of about 4 percent of GDP in primary structural terms. - Supplementary budget to regularize offsets and include appropriations to: - settle part of domestic arrears: €1.5 billion; - acquire SOE and regional and local government bank loans (up to €3 billion), financed out of resources from the pension transfer. - Authorities affirmed commitment to a general government deficit of 3 percent of GDP in 2013, requiring further structural primary adjustment of about 1½ percent of GDP. - Fiscal consolidation package (2012): - Measures worth 5.3 percent of GDP compared with estimated outturn for 2011. - Expenditure reduction ~ two thirds of effort; revenue increases ~ one third. - Specified expenditure savings and revenue measures include: - Public sector wage bill decrease in gross terms in 2012 by at least EUR 3,000 million (detailed suspension and limits on payments). - Reduce pension expenditure in gross terms in 2012 by at least EUR 1,140 million. - Control health sector costs to achieve savings of some EUR 1000 million. - SOE cost reductions to save at least EUR 500 million. - Education savings aim: EUR 380 million. - Capital expenditure reduction: EUR 200 million. - VAT yield target for 2012: at least EUR 2,024 million. - Personal income tax yield target for 2012: at least EUR 265 million. - Corporate tax yield target for 2012: at least EUR 330 million. - Excise tax yield target for 2012: at least EUR 200 million. - Property taxation yield for 2012: at least EUR 50 million. - Anti-evasion yield target: at least EUR 175 million. ### SOEs, PPPs, and contingent liabilities - SOE scale and risks: - State’s portfolio includes 98 companies; local and regional governments own over 500 companies. - SOE sector represents about 4.6 percent of GDP and 3.6 percent of the workforce. - Operating deficit of 0.5 percent of GDP in 2010; total liabilities of over 30 percent of GDP. - Formal SOE debt close to 23 percent of GDP—about half classified as general government debt. - SOEs generated cash drains on the Treasury of €5.3 billion over 2011 and are expected to require a further €1.8 billion in the first six months of 2012. - Parpública’s liabilities could exceed 2½ percent of GDP; CP has a debt overhang of about 1.8 percent of GDP. - Restructuring objectives: - Government strategy: bring SOE sector as a whole to operational balance by end-2012 through cutting operational costs and ending dependence on Treasury financing. - Benchmark: develop plans for unwinding Parpública (end-April 2012) and managing liabilities of CP (MEFP references). ### Financial sector, liquidity, and deleveraging - Bank funding and liquidity: - Loan-to-deposit ratio declined from 158 percent at end-2010 to an estimated 143 percent at end-2011. - Private sector credit declined by some 1½ percent in 2011. - Portuguese banks increased ECB funding from €47 billion to €54 billion via LTRO for precautionary purposes. - Capital positions and needs: - All eight largest banks (83 percent of system assets) and all but two bank holding companies met the end-2011 Core Tier 1 target of 9 percent through market-based means. - Estimates show seven largest privately-owned banks would require €4 billion to meet capital targets, in addition to capital some banks hope to mobilize privately. - CGD will require additional capital: €1.65 billion from cash buffers outside of the BSSF to meet end-June 2012 requirements from the EBA exercise. - BPN recapitalization and sale: government recapitalized with €600 million; transfer of SPVs completed; sale to prospective buyer expected by end-March 2012 (MEFP ¶21). - Bank Solvency and Stability Facility (BSSF) and public support: - BSSF available; €1 billion provided in cash in a dedicated account by end-June 2011; an additional €3 billion deposited in 2012. - Required public capital support will be available via BSSF and subject to strict conditionality. - Legislation ensures soundly run banks that comply with recapitalization plans may remain privately managed. - Supervisory actions and SIP: - First two phases of SIP completed end-2011; stress-testing component completed in March. - BdP embedding SIP methodologies into regular supervisory cycle and establishing a new division with full operationalization by end-June 2012 (MEFP ¶22). - Quarterly stress tests from June 2012 onward to monitor corporate sector vulnerabilities. ### Private sector funding constraints - Indicators of tightening credit conditions: - Significant increase in lending rates; lending conditions more restrictive in maturity, collateral, and amounts. - Rejection rates for loans rising; new lending declining. - Some corporations face substantial credit constraints despite aggregate corporate credit not contracting sharply. - Structural vulnerabilities: - Private debt-to-GDP ratio: nearly 140 percent (corporate sector), household debt an additional 100 percent of GDP (over 130 percent of disposable income). - Bank financing accounts for two-thirds of corporate funding. - Main concern: firms in tradable sector with growth potential may become further credit constrained. ### Structural reforms, competitiveness, and labor market - Reforms and measures implemented: - Labor market reforms, privatizations, telecom sector liberalization, improved competition framework. - Agreement with social partners to increase working time flexibility, halve overtime pay, reduce holidays (from 25 to 22 paid days), ease individual dismissal restrictions, reduce unemployment benefit generosity and duration, align severance payments to EU average, and introduce some decentralization in collective wage bargaining. - Measures to reduce rents in network industries, notably electricity; diagnosis study completed (end-January structural benchmark). - Competition law revised and other measures to make legal procedures more efficient. - Assessment and risks: - Competitiveness indicators show some improvement; wages have declined in some sectors but manufacturing costs "not yet down in relative terms" compared with competitors. - Staff notes need to identify policy measures to replace the gap left by decision not to pursue fiscal devaluation; absence of near-term supply-side reforms constrains adjustment. - Staff calls for forceful implementation to reduce rents in electricity sector and to identify swiftly implementable alternatives to fiscal devaluation. ### Debt sustainability, scenarios, and risks - Baseline projections and key assumptions: - Baseline: debt peaks at some 115 percent of GDP in 2013 and then gradually declines to below 80 percent of GDP by 2030. - Baseline assumes return to markets in mid-2013 at yields of about 7 percent on medium- and long-term debt, declining to 5 percent over four years thereafter. - Debt dynamics rely on full implementation of programmed cumulative improvement in structural primary balance of 9½ percent of GDP over 2010–14 and a stable structural primary balance around 3¼ percent of GDP after 2013 in staff projections. - Scenario and sensitivity analysis (selected outcomes and assumptions): - Upside scenario: structural deficit brought to 0.5 percent of GDP in 2015 and kept thereafter → debt down to 68 percent of GDP by 2030. - Moderate downside (fiscal slippage): primary surplus at 2¼ percent of GDP on average over 2015–30 → debt peaks at 117 percent of GDP in 2014 and falls to 95 percent by 2030. - Downside (unaddressed long-term spending pressures): primary balance deteriorates by about 3.5 percent of GDP by 2030 → debt stabilizes but remains above 110 percent of GDP. - Deeper recession (cumulative growth 2012–14 lower by 5 percentage points) with nominal primary expenditure rigid → debt peaks at 126 percent of GDP in 2015 and declines to 90 percent by 2030. - Interest-rate shocks: temporary 400 basis points increase slows debt decline substantially; debt close to 110 percent by 2020 under such shock. - Contingent liabilities shock (e.g., 15 percent of GDP) without policy response → debt stabilizes in 2013 around 130 percent of GDP and declines to about 90 percent by 2030. - DSA headline figures (selected table extractions): - General government gross debt (ESA 95): 68.3 (2007), 71.6 (2008), 83.1 (2009), 93.4 (2010), 106.8 (2011), 112.4 (2012), 115.3 (2013), 114.4 (2014), 112.8 (2015), 110.7 (2016), 102.7 (2020), 88.9 (2025), 77.1 (2030). - External debt (percent of GDP baseline path sample): 195.5 (2007), 200.8 (2008), 223.8 (2009), 231.4 (2010), 229.6 (2011), 228.5 (2012), 224.0 (2013), 211.5 (2014), 205.5 (2015), 200.9 (2016), 197.7 (2017). - Gross external financing requirements (billion euros): 170.5 (2009), 187.1 (2010), 209.1 (2011), 182.3 (2012), 165.7 (2013), 159.5 (2014), 141.2 (2015), 138.1 (2016), 137.1 (2017). ### Risks, market access, and exceptional access criteria - Market access and spreads: - Spreads remain elevated and volatile; Portugal rated sub-investment grade by three main agencies. - Treasury bill auctions successful; 3-month yields fell by 120 basis points to 3.8 percent after LTRO. - Exceptional access justification (staff view): - Criterion 1: exceptional balance of payments pressures persist. - Criterion 2: staff views debt sustainable over medium term but cannot state categorically; exceptional access justified by high risk of international systemic spillovers. - Criterion 3: staff considers Portugal will recover access to medium- and long-term market financing within the program period, though non-trivial risk of delay exists. - Criterion 4: policy program provides reasonably strong prospect of success given adjustment underway and strong political support. - Fund exposure and repayment capacity: - Fund’s cumulative exposure expected to peak at 15 percent of GDP in 2014. - Debt service to the Fund expected to peak at 5¼ percent of exports of goods and services (2¼ percent of GDP). ### Program implementation, conditionality, and monitoring - Requests and approvals: - Authorities requested completion of the third review and a waiver of applicability of end-March PCs; staff supported completion and waiver. - Executive Board completed the third review enabling disbursement: SDR 4,443 million (about €5.17 billion); total disbursements after this: SDR 15.946 billion (about €18.56 billion). - TMU and reporting: - Program exchange rates (May 5, 2011): €1 = 1.483 U.S. dollar; €1 = 116.8390 Japanese yen; €1.09512 = 1 SDR. - Extensive data provision and reporting deadlines specified for MoF and BdP (monthly, quarterly, and ad hoc reports). - Performance criteria and continuous indicative targets defined, including consolidated general government cash balance floors, non-accumulation of new domestic arrears, ceiling on overall stock of general government debt, and non-accumulation of new external debt payment arrears. - Bank Solvency Support Facility details: initial €1 billion in cash available; additional €3 billion deposited in 2012; future amounts to be deposited as needed. ### Staff appraisal, priorities, and policy guidance - Program implementation is solid but formidable challenges remain. - Policies generally implemented as planned; fiscal and external deficits narrowing; political support broad-based. - Recession likely to deepen short term; unemployment higher than envisaged. - Key policy priorities and recommendations: - Adhere to targeted ambitious fiscal path and avoid fiscal slippages, particularly in 2012. - Safeguard financial stability while ensuring viable firms retain access to credit; strike balance in orderly deleveraging. - Intensify supply-side reforms, extend structural reform agenda to product markets, reduce rents in non-tradable sectors (electricity priority), and foster measures to support tradable sector supply response. - Strengthen fiscal institutions: implement commitment control procedures, systematically clear arrears, apply new budgetary framework across government levels, and advance SOE restructuring and privatizations. - Monitor and contain migration of private liabilities to the public balance sheet; ensure public capital support to banks subject to strict conditionality and full loss absorption by private shareholders where appropriate. - If downside growth risks materialize, consider allowing automatic stabilizers to operate, but avoid policy-induced slippages to fiscal targets without careful assessment. - Staff underscores need to identify quickly implementable alternatives to fiscal devaluation to tilt relative prices toward tradable activities and reduce risk of demand-only adjustment. *Source: _cr1277 — IMF staff report content provided in the supplied document.* ### Executive Summary ### _cr1277 - Executive Summary ### Background - Third review discussions occurred against a backdrop of: - Early signs that the required economic adjustment is in train. - Elevated and volatile spreads indicating market skepticism about the program strategy. ### Program status - Program implementation remains satisfactory. - All quantitative PCs for end-December have been met. - All but one of the 10 structural benchmarks for the third review were observed, some with minor delays. - Staff supports the authorities’ request for a waiver of applicability of the end-March PCs as these are likely to be met; the request is due to the Board discussion being scheduled after the test date for PCs relevant for the Fourth Review. ### Recent developments and outlook - Overall assessment: - Recent economic developments have been broadly in line with expectations. - Output contracted by 1½ percent last year (a little less than expected). - There was substantial underlying fiscal adjustment: 3½ percentage points of GDP excluding one-off transactions. - The current account deficit improved significantly more than expected. - Near-term outlook: - The recession is set to deepen this year with output projected to fall by 3 1/3 percent. - Unemployment will rise further. - If this year's budget is implemented as planned, the debt to GDP ratio should peak at around 115 percent of GDP next year. - Key 2011 developments: - Output contracted by 1½ percent in 2011—milder than the 2¼ percent decline expected at program request. - Domestic demand declined about 5 percent over the course of 2011. - Exports expanded by some 7 percent in real terms (15 percent in nominal terms) in 2011. - Current account deficit narrowed to 6.4 percent of GDP in 2011 (from 10 percent of GDP in 2010). - Employment losses accelerated in Q4 2011; unemployment rose to 14 percent in Q4 2011. - Unemployment rate for the 15–24 age group exceeds 35 percent. - Average inflation reached 3.6 percent in 2011 (compared to 2.2 percent for the Euro area as a whole); indirect tax increases and administered prices adjustment contributed about half of the price increase. - Fiscal 2011 outcomes: - Preliminary end-2011 general government deficit dropped to about 4 percent of GDP—against a 5.9 percent of GDP target. - Over-performance reflects one-off revenues from the partial transfer of banks' pension funds to the state social security system amounting to 3½ percentage points of GDP. - Excluding one-off elements, the general government structural primary deficit narrowed by over 3½ percent of GDP in 2011. ### Program implementation across pillars - Competitiveness and growth: - Government initiated labor market reforms, privatizations, telecom sector liberalization, and improved the competition framework. - Competitiveness indicators show some improvement with wages declining in some sectors and a sizeable improvement in the current account deficit in 2011. - Financial stability and orderly deleveraging: - Banking system remains heavily reliant on Eurosystem funding, but required adjustment in banks’ balance sheets has started. - Fiscal solvency: - Even excluding mainly one-off slippages, there was a sizeable adjustment of some 3½ percent of GDP in the general government structural primary balance in 2011. - With the strong 2012 budget, the program target of a general government deficit of 4½ percent of GDP for 2012 is within reach. - Budget financing: - Recent T-bill auctions, aided by the ECB’s LTRO, have been successful; government extended maturities and holds a stock of t-bills higher than assumed under the program. ### Risks and challenges - Significant remaining challenges: - Much fiscal adjustment still required in the remainder of this year and next. - Product market reform and liberalization only beginning; labor market reforms to date may be insufficient to close the competitiveness gap. - Simultaneous pursuit of fiscal austerity, structural reforms, and deleveraging increases the risk that the objective of rapidly reducing macroeconomic imbalances remains out of reach in the near term. - Spreads and market access: - Spreads remain elevated and volatile despite LTRO; Portugal’s spreads have not fallen as in other euro area periphery countries. - Two likely contributors to elevated spreads: - Portuguese sovereign debt has sub-investment grade ratings from all main rating agencies following January downgrades, altering the investor base. - Concerns about high public debt amid lack of competitiveness and growth, and heavily overleveraged private sector balance sheets. - Portugal’s ability to recover access to medium- and long-term sovereign debt markets next year is highly contingent on: - Strong implementation of reforms with measurable results. - A strengthened European crisis response mechanism. ### Program discussions and policy focus - With 2012 fiscal targets within reach on current policies and outlook, broad agreement to maintain these targets. - Discussions centered on: - Extending structural reform agenda to product markets. - Measures to enhance financial stability. - Emphasis on avoiding fiscal slippages, particularly in 2012 when the recession is set to deepen, and timely implementation of structural reforms. ### Mission and team - Discussions took place during February 15–28 in Lisbon. - Staff team: P. Thomsen (head), H. Samiei, A. Selassie, P. Kunzel, S. Roudet, I. Vladkova-Hollar (all EUR); A. Piris (SPR); A. Lemgruber (FAD); O. Frecaut, C. Verkoren (MCM); Y. Liu, W. Bergthaler (LEG); A. Jaeger, M. Souto (Res. Reps). - Mr. Cardoso (OED) also participated in the meetings. *Executive Summary, _cr1277 - Executive Summary* ### 2012. This is being achieved mainly through downsizing (with participation in ### _cr1277 - 2012 ### Public administration, fiscal consolidation, and privatization - Downsizing measures have included participation in voluntary redundancy programs ahead of expectations, reduction of fringe benefits, cuts in operational costs, and investment restrictions. - The end-February benchmark on assessing financial prospects, potential government exposure and scope for privatization was met in March. - A landmark three-year program between the central government and the Madeira region was signed in January; this program is strongly inspired by the 3-year adjustment program at the national level and includes measures in health, PFM, revenue administration, privatization, and restructuring of public enterprises, as well as ambitious quantitative objectives for the region’s deficit. Quarterly monitoring will be ensured by the Cabinet of the Minister of Finance and the Inspectorate General of Finances (IGF). - Because efforts were largely concentrated on the Madeira program, progress on revising regional and local finance laws has been slow and the related end-March benchmark was missed. - Public administration reform has started producing tangible results: - In 2011 the number of public employees in the central administration decreased by 3.2 percent (above the 2 percent target). - Management positions were reduced by 27 percent. - The number of public institutes was reduced from 74 to 56. - Privatization proceeds and transactions: - Sale of the state’s stake in Energias de Portugal (EDP) raised €2.7 billion, some €600 million above the programmed amount. - Sale of a 40-percent stake in REN brought additional premium over market prices. - Total privatization proceeds so far amount to €3.3 billion, or two-thirds of the amount originally projected under the program. ### Financial sector deleveraging and bank funding - Loan-to-deposit ratio declined from 158 percent at end-2010 to an estimated 143 percent at end-2011. - Private sector credit declined by some 1½ percent in 2011. - With market funding conditions difficult, reliance on euro system funding remained elevated: - Banks used the December LTRO to lengthen maturity profiles. - Portuguese banks tapped the end-February LTRO, increasing ECB funding from €47 billion to €54 billion for precautionary purposes and to mitigate liquidity risk. - Banks’ capital positions strengthened without recourse to public resources: - All eight largest banks, accounting for 83 percent of the banking system’s assets, and all but two bank holding companies, met the end-2011 Core Tier 1 target of 9 percent. - Targets were met through market-based means including capital injections, debt to equity conversions, and deleveraging. ### Private sector funding constraints (Box 2) - Micro data indicate some corporations face substantial credit constraints despite aggregate corporate credit not contracting sharply. - Indicators of tightening credit conditions: - Significant increase in lending rates. - Lending conditions more restrictive in maturity, collateral requirements, and amounts. - Rejection rates for loans rising; companies report increasing difficulties accessing credit; new lending continues to decline. - Effects exacerbated by continuous payment delays, non-acceptance from foreign suppliers of bank guarantees, and reduced availability of credit insurance products. - Structural vulnerabilities: - Private debt-to-GDP ratio of nearly 140 percent makes Portuguese companies highly-leveraged and susceptible to interest rate changes. - Bank financing accounts for two-thirds of corporate funding. - Banks face constraints from their own deleveraging, rising funding costs, and difficulties re-pricing large mortgage portfolios. - Main concern: companies with strong growth potential in the tradable sector may become further credit constrained. ### Market developments, sovereign spreads, and treasury bills - Sovereign yield curve steepened with substantial spread volatility following ratings downgrades (S&P from BBB- to BB); Portugal is rated sub-investment grade by the three main credit rating agencies. - Downgrades led to removal from major indices, changing the investor base and widening long-end spreads. - Treasury bill auctions have remained successful: - LTRO impact led to substantial placements at over six months maturity for the first time since April 2011. - Yields on three-month paper fell by 120 basis points to 3.8 percent. - Demand in T-Bill auctions remains primarily domestically driven, with some foreign participation. ### Structural reforms and labor-market measures - Agreement between the government and social partners on policies to promote growth, including revisions to labor legislation to: - Increase flexibility of working time arrangements, including reduction of working time and employment suspension during economic crises. - Halve overtime pay. - Reduce the number of public holidays by four and paid holidays from 25 days to 22. - Ease restrictions on individual dismissals for redundancy and unsuitability. - Reduce generosity and duration of unemployment benefits. - Align severance payments to EU average. - Introduce some decentralization in the collective wage-bargaining process. - Four structural benchmarks aimed at enhancing competitiveness and growth were met (although sometimes with delays), including a revised competition law, measures to make legal procedures more efficient, and assessment of options to address excessive rents in the electricity sector. ### Outlook and key macroeconomic projections - 2012 growth projection revised down by ¼ of a percentage point to -3¼ percent, reflecting weaker partner country demand (projected weaker by almost 1½ percentage points relative to last December’s projections). - Inflation in 2012 expected to be 3¼ percent, with VAT increases and administered price adjustments contributing 2¼ percentage points. - Unemployment: - Projected to average 14½ percent in 2012 compared to initial forecast of 13¾. - Unemployment rate jumped to 14 percent following five quarters of output contraction. - Government short-term measures: Stimulus 2012 (wage subsidies for firms hiring and training certain categories of unemployed) and measures to specifically tackle youth unemployment. - External adjustment and demand: - Current account deficit forecast to fall by about two percent of GDP in 2012, driven chiefly by contraction in the trade balance. - Projected compression in imports of 6¾ percent in real terms. - Projected declines in private consumption of close to 6 percent and investment of almost 12 percent in 2012. - Growth beyond 2012: - Staff projects growth of 0.3 percent in 2013 and 2 percent in 2014, driven largely by a cyclical rebound. - Uncertainty remains given lack of identified measures to foster near-term supply response; the fiscal devaluation originally expected to play this role has not been replaced by alternative measures. - Public debt outlook: - Public debt expected to stabilize at some 115 percent of GDP in 2013, declining gradually thereafter. - Under the baseline, lowering debt to below 80 percent of GDP by 2030 relies on sustaining a primary surplus of over 3 percent of GDP. - Interest rate assumed for medium- and long-term borrowing at time of market access is 7 percent; staff also modeled a scenario with interest rates temporarily higher by 400 basis points which mainly slows the decline of the debt ratio. - Scenario risks illustrated: baseline, deeper recession (2012–14), potential growth at 1 percent, and an extreme scenario with potential growth at 1 percent and nominal primary expenditure unchanged relative to baseline — all showing large sensitivity of debt dynamics to growth and interest rates. ### Risks to program objectives - Key risks identified: - Additional fiscal adjustment required over coming years could combine with weaker external environment to produce a deeper downturn than assumed. - Large size of fiscal adjustment raises implementation risks despite strengthening fiscal institutions. - Migration of private sector liabilities to the public balance sheet (including through increased State participation in banks). - Restoring competitiveness through internal devaluation could be very slow, providing insufficient impetus to tradable sector growth; failure to advance structural reforms, particularly product market competitiveness, would exacerbate this risk. - Combination of low growth, higher interest rates, and lower primary balances could trigger an adverse debt-deflation dynamic and erode political support for the program. - External environment risks: - Adverse developments in other periphery countries could prompt further loss of confidence among international and domestic investors, deepening the recession and potentially requiring euro area leaders to provide additional financial support if program performance remains on track. ### Policy discussions and priorities - Discussions emphasized intensifying implementation along program pillars: - Adhering to the targeted ambitious fiscal path. - Safeguarding financial stability amidst deleveraging. - Strengthening supply-side reforms, extending the structural reform agenda to product markets, and measures to improve financial stability. - With 2012 fiscal targets within reach on current policies and outlook, broad agreement that targets remain appropriate. Authorities stressed regaining market access hinges on achieving current fiscal targets and, barring significant deterioration, there would be no need to allow automatic stabilizers to operate. - Staff called on authorities to address the gap in identifying reforms that would foster near-term supply response as quickly as possible. *Source: _cr1277 - 2012* ### 19. The fiscal deficit target for 2012 remains ### _cr1277 - 19. The fiscal deficit target for 2012 remains ### Fiscal outlook and targets - The 2012 fiscal deficit target entails a large and front-loaded fiscal adjustment—of about 4 percent of GDP in primary structural terms. - Downside risks to the fiscal outlook have increased, but the deficit objective (4½ percent of GDP) is expected to be met under current policies. - Expected offsets to lower tax and social contributions revenues and higher unemployment benefits include: - savings on net interest payments (resulting from the debt buyback and lower margins on EFSF/EFSM loans); - lower net project spending (reflecting expected reprogramming of EU co-financing). - A supplementary budget will regularize offsetting revenue and expenditure items and will include appropriations to: - settle part of the domestic arrears (€1.5 billion); - acquire SOE and regional and local government bank loans (up to €3 billion, while maintaining the contractual obligation of the debtors), to be financed out of the resources from the pension transfer. - The authorities affirmed commitment to a general government deficit of 3 percent of GDP in 2013, requiring further structural primary adjustment—of about 1½ percent of GDP. - Staff medium- and long-term projections conservatively assume the primary structural balance will be more or less stable after 2013 at around 3¼ percent of GDP; the authorities envisage prolonging adjustment to cap the structural deficit at ½ percent of GDP, implying a structural primary balance in excess of 4 percent. - New detailed medium-term fiscal plans will be presented in April in the context of the Stability and Growth Program submission. ### Structural fiscal reforms (priorities and measures) - Immediate PFM priorities: - strict and broad based implementation of the new law on expenditure commitment controls; - adopt a strategy to settle domestic arrears, prioritizing health sector arrears and encouraging local and regional governments to settle arrears from own resources. The final strategy is to be adopted by the Council of Ministers (prior action for the Third Review). - SOE restructuring and PPP framework: - Further progress on SOE restructuring and the PPP framework is needed in the coming months to reduce contingent liabilities and credit risk to the banking sector. - Progress welcomed towards eliminating the operational deficit of SOEs by end-2012. - Authorities encouraged to develop plans for unwinding Parpública (benchmark for end-April 2012) and managing liabilities of railway operator CP (MEFP ¶8). - A new PPP institutional framework to enhance MoF role in PPP management is to be adopted by end-March (MEFP ¶10). - Strengthening tax compliance management: - implement a Large Taxpayer Office (end-December structural benchmark); - increase resources for audit with the objective of increasing audit personnel from 17 to 30 percent of total staff by end-2012; - make further progress resolving backlog of high-value tax court cases. - Revamping local and regional finance laws to: - propose a new revenue-sharing model; - redesign sub-national fiscal rules, including debt ceilings; - adopt insolvency mechanisms for sub-national governments; - ensure the new budgetary framework law is applied at all government levels. - End-March structural benchmark on the regional finance law was reset to end-2012; submission to parliament of the local finance law is included in the benchmark. ### SOE sector: scale, risks, and restructuring (Box 4) - Scale and composition: - State’s portfolio includes 98 companies (banks, ports and airports, roads and railways, hospitals, and Parpública). - Local and regional governments own over 500 companies (water and sewage, scientific, recreational and cultural activities). - Sector represents about 4.6 percent of the country’s GDP and 3.6 percent of the workforce. - Key fiscal and economic issues: - SOEs used as off-budget vehicles for social policy, contributing to distortions in competition and a drag on competitiveness and long-term growth. - Operating deficit of 0.5 percent of GDP in 2010 and total liabilities of over 30 percent of GDP. - Most SOEs do not statistically consolidate with the general government; the overall formal SOE debt amounts to close to 23 percent of GDP—of which about half is classified as general government debt. - Direct Treasury financing provided to troubled firms to avoid defaults; SOEs generated cash drains on the Treasury of €5.3 billion over 2011 and are expected to require a further €1.8 billion in the first six months of 2012. - Exposure of some SOEs to derivative contracts may pose additional risks. - Restructuring objectives: - Government strategy to bring the sector as a whole to operational balance by end-2012 by cutting operational costs and ending dependence on Treasury financing. - Problems concentrated in a small number of transport and infrastructure firms that may require longer restructuring; separate strategies are being developed (MEFP ¶8–9). - Parpública’s liabilities represent a contingent liability that could exceed 2½ percent of GDP. CP has a debt overhang of about 1.8 percent of GDP that it is unlikely to be able to service from regular income. ### Safeguarding financial stability — liquidity and deleveraging - Liquidity coverage and needs: - Current unused eligible collateral for euro system refinancing: €18 billion. - Additional potential increases in that pool from credit claims: up to €30 billion. - Additional potential from government guaranteed bank bond issuance for own use (GGBBs): up €17.5 billion, subject to ECB Governing Council approval. - Bank net market funding needs over the next six months: €30 billion — expected to be adequately covered. - Sustained exceptional liquidity support from the Euro system remains essential given difficult market funding environment. - Deleveraging and corporate finance: - Authorities argue deleveraging must not imperil viability of healthy firms; recent ECB action, capital augmentation envisaged under the program, and fiscal adjustment should alleviate funding constraints for some firms (MEFP ¶14). - BdP is considering measures to discourage ever-greening of problematic loans, taking into account bank capital impacts. - New measures to mitigate funding strains for sound companies should not lead to an increase in public sector liabilities. - Authorities preparing a proposal to encourage diversification of corporate financing alternatives (end-July structural benchmark), including examination of the tax code to encourage balanced treatment of debt versus equity. - Risk that private liabilities migrate to sovereign: - Corporate sector debt exceeds 130 percent of GDP and household debt amounts to an additional 100 percent of GDP (over 130 percent of disposable income). - Declining corporate profitability likely to increase loan losses and potential recapitalization needs; domestic banks account for around half of corporate sector borrowing. - New recapitalization law includes safeguards to protect public sector interest and ensure full absorption of losses by private shareholders. - Staff to monitor corporate sector vulnerabilities via planned quarterly stress tests and undertake a study on inter-linkages using contingent claims analysis (CCA) in the Article IV consultation. ### Strengthening banks’ capital and state bank actions - Capital requirements and needs: - New capital requirements driven by the EBA sovereign risk buffer announced in December 2011, partial transfer of banks' pension funds (losses in 2011), and the SIP inspections program. - The top eight banks incurred more than €1 billion in losses in 2011. - Current estimates show the seven largest privately-owned banks would require €4 billion to meet their capital targets, in addition to capital some banks hope to mobilize privately. - Required public capital support will be made available via the Bank Solvency and Stability Facility (BSSF) and will be subject to strict conditionality. - Legislation allows soundly run banks that comply with recapitalization plans to remain privately managed (MEFP ¶19). - Use of non-dilutive contingent instruments, in line with EBA requirements, should allow reversal of public capital support if need diminishes. - State-owned Caixa Geral de Depósitos (CGD): - CGD will require additional capital; it will be provided with capital support of €1.65 billion from cash buffers outside of the BSSF to help meet additional end-June 2012 capital requirements resulting from the EBA exercise. - CGD will pursue sale of its insurance arm to a third party before end-2012 and initiate sales of some non-strategic participations (MEFP ¶20). - Banco Português de Negócios (BPN): - Transfer of SPVs holding distressed assets from BPN to the State completed in mid-February 2012; government restored BPN’s solvency via a recapitalization of €600 million in anticipation of sale to a foreign-owned bank. - Discussions with prospective buyer and EC’s Directorate-General for Competition on transaction modalities continue, with a final resolution expected by end-March 2012 (MEFP ¶21). - Once a final solution is found, CGD’s state guaranteed claim on BPN and the SPVs will be gradually settled in cash; recoveries on assets held by state-owned SPVs will be applied towards repayment of CGD’s claim. - Staff stressed need for a more effective strategy to recover SPV distressed assets given low recovery values to date. ### Strengthening the regulatory and supervisory framework - Legal and institutional reforms: - Parliament approved a new law on conditionality attached to public capital support (end-January benchmark) to ensure banks in good standing seeking public support remain privately managed while protecting taxpayer interests. - End-December structural benchmark on strengthening early intervention, bank resolution, and deposit insurance frameworks was met. - Changes to the corporate insolvency framework were adopted by Parliament in early March; authorities committed to make them effective by mid-June (structural benchmark). - Supervisory capacity and SIP: - First two phases of the SIP (assessing loan impairments and capital calculations for credit risk) completed end-2011, resulting in modest additional capital needs for participating banks. - Stress-testing component of the SIP completed in March; BdP is embedding SIP methodologies and tools into regular supervisory cycle. - Full operationalization, by end-June 2012, of the new division tasked with executing enhancement initiatives is an important step (MEFP ¶22). - Authorities taking steps to implement the new framework for early intervention, resolution, and deposit insurance, including operationalizing the recently established resolution fund (MEFP ¶25). *Source: _cr1277 - 19. The fiscal deficit target for 2012 remains* ### 31. The anemic growth record and the still sizeable competitiveness gap point to the ### The anemic growth record and the still sizeable competitiveness gap point to the ### Structural reform needs and interim measures - The anemic growth record and the still sizeable competitiveness gap point to the pressing need for deep structural reforms. - Improvement in the current account deficit last year is encouraging, but staff did not think that the same pace of adjustment could be sustained absent deeper reforms that would foster a more immediate supply-side response in the tradable sector. - Staff noted the need to quickly identify policy measures that would help replace the gap left by the decision to not pursue fiscal devaluation. ### Labor market and wages - Interim structural reforms aiming to align nominal compensation with economic fundamentals include: - Freezing of minimum wages. - Reforms to the collective wage bargaining process. - Reduction in overtime pay combined with an increase in working days. - Risk: Should unemployment continue to rise rapidly there could be a need for additional reforms to ensure that the adjustment does not fall excessively on the volume dimension. - Reforms already in train: - Addressing segmentation of the labor market (reducing dismissal costs for permanent workers, aligning protection and rights under permanent and fixed term contracts). - Easing rules that govern individual dismissal for unsuitability and redundancy to help improve productivity. - Changes to the unemployment insurance system have reduced the generosity of the benefits, expected to affect reservation wages and incentives to work (MEFP ¶34). - Note: Should labor market adjustment continue to fall unduly in the volume dimension, further measures to promote greater wage flexibility will be needed. ### Reducing production costs and competition framework - High non-tradable prices from long-standing entry barriers and excessive rents curb external competitiveness and place socially unfair burdens on consumers and taxpayers. - Authorities are introducing measures to reduce rents in network industries, particularly electricity. - Substantial mark-ups over production costs in these industries cascade through the economy and weaken producer competitiveness. - Significant progress has already been made in the telecommunications sector (see Box 2 in IMF Country Report No. 11/363). - In line with commitments from the second review, discussions focused on reforms to reduce mark-ups in the electricity sector; diagnosis improved through a study of distortions in the sector (end-January structural benchmark). - Authorities committed to reduce incentives with weak economic rationale (see MEFP ¶28–31) while ensuring not to override existing contractual agreements. - The focus on electricity is justified by the important role of “policy costs” passed onto end-users through electricity access tariffs. - Footnote: The “policy costs”—i.e. the costs associated with decisions taken under the government’s energy policy—constitute just over ¼ of the electricity payment for industrial consumers. - Continued efforts to bolster the competition framework are necessary: - Strengthen and make independent sectoral regulators. - Commissioning an independent expert report reviewing and benchmarking responsibilities, resources, and independence of main sectoral regulators (MEFP ¶26). - Prepare a proposal to reinforce regulators’ independence (mid-August 2012 structural benchmark). ### Product market, housing, insolvency, and courts - Reforms expected to allow more efficient allocation of resources once growth resumes: - Housing market: Revisions to the urban lease law (currently in Parliament) to address constraints to an efficient rental market and geographical mobility of labour. - Corporate insolvency law: Faster rescue of viable firms to reduce prolonged restructuring of balance sheets and facilitate resumption of investment. - Efficiency of the court system: Continue reforms to resolve backlog tax and enforcement court cases, reduce number of courts, strengthen arbitration framework, simplify court procedures and structure, and improve enforcement agent regime with IMF and EC technical assistance. - Staff stressed importance of broad consultation to get stakeholders’ buy-in given societal impact. ### Communication and outreach - Authorities noted government communication on the reform program has not been as proactive as it could be. - With a positive track record, authorities are exploring ways to enhance communication with market participants and investors. ### Financing, market access, and exceptional access criteria - Program financing remains adequate but risks exist due to change in investor base after ratings downgrade and growing proportion of senior official sector debt. - Staff assesses that Portugal can regain access to market financing from mid-2013 and will be able to cover financing requirements of €9.7 billion arising from a bond amortization September 2013. - Amortizations in the second half of 2013 and 2014 add up to about €24 billion. - Sufficient time remains to build a convincing track record of economic adjustment and program performance; euro-wide policy and crisis resolution improvements are likely to help. - If recovery of market access is delayed, it may become necessary to call upon pledges by European leaders to continue providing adequate support as long as the program is on track. - Exceptional access justification (staff view) by criterion: - Criterion 1: Portugal continues to experience exceptional balance of payments pressures; current account remains substantially in deficit. - Criterion 2: Staff views debt as sustainable over the medium term but cannot state this categorically; exceptional access justified by high risk of international systemic spillover effects. - Criterion 3: Staff considers Portugal will recover access to medium- and long-term market financing within the program period, though non-trivial risk of delay exists; euro area lenders may be called upon if risks materialize. - Criterion 4: Policy program provides reasonably strong prospect of success given adjustment underway and strong political support. ### Portugal’s capacity to repay and Fund exposure - Fund’s cumulative exposure to Portugal has risen to substantial levels, and is expected to peak at 15 percent of GDP in 2014. - Debt service to the Fund is expected to peak at 5¼ percent of exports of goods and services (2¼ percent of GDP). ### Staff appraisal: assessment, risks, and policy guidance - Program implementation remains solid but formidable challenges lie ahead. - Policies generally implemented as planned. - Fiscal and external deficits are narrowing. - Political support for the adjustment program remains broad-based. - Recession likely to deepen in short term; unemployment is higher than envisaged and likely to rise further. - Triple challenge: revitalizing the supply side, restoring external cost competitiveness, and repairing overleveraged private sector balance sheets—these objectives may be mutually inconsistent and complicate policy. - Staff welcomes progress on structural reforms (court system, competition, housing rental market) but emphasizes implementation capacity of agencies, incentives, resources, and time. - Reforms to date are a down payment; much more effort required on product market reforms, particularly in non-tradable sectors where entry barriers and excessive rents stifle dynamism and raise production costs. - Staff urges forceful implementation of agreed steps to reduce rents in the electricity sector and consideration of additional reforms to improve sector efficiency. - Absence of supply-side reforms with near-term payoff constrains the policy framework: - An alternative package to fiscal devaluation (earlier proposed by staff) could improve growth prospects and significantly narrow the current account deficit in the near-term; such a package could include deeper labor and product market reforms. - In the absence of such a package, program relies on front-loaded fiscal adjustment, increasing risk of undermining near-term growth. - Staff calls on authorities to urgently explore swiftly implementable alternatives to fiscal devaluation that tilt relative price structure toward tradable activities and reduce risk of a purely demand-driven adjustment. - Given constraints, the front-loaded fiscal consolidation strategy remains appropriate: - Ambitious deficit target for 2012 should be within reach on current policies and outlook. - Clear indications that public debt will be stabilized in the very near-term should strengthen case for returning to markets in 2013. - If further downside risks to growth and employment materialize, there would be a case for adjusting nominal fiscal targets to allow automatic stabilizers to operate, but changes to fiscal targets to accommodate policy-induced slippages must be avoided. - Consolidation strategy requires stronger fiscal institutions: - Ensure new commitments control procedures work effectively, arrears cleared systematically and transparently, and accountability of regional and local public finances strengthened. - Continue to privatize viable state-owned enterprises where feasible and restructure financially troubled ones. - Newly established Fiscal Council will strengthen voice for fiscal responsibility. - Financial sector policy priorities: - Strike balance between orderly deleveraging and ensuring viable companies are not starved of credit. - Three policy initiatives to help: ECB liquidity and collateral decisions; clarified rules for providing public capital to banks and plans to meet end-June 2012 targets for capital buffers; program measures to mitigate potential credit constraints to exporters and SMEs with relatively sound growth prospects. - New law on public capital support helps ensure banks in good standing remain privately managed while protecting taxpayers; modalities needed to ensure full absorption of any losses by private shareholders. - Government measures to mitigate funding strains for sound companies should avoid ever-greening of doubtful loans and must not lead to an increase in public sector liabilities. - With increasing risks to market access in 2013, strong policy implementation is critical to enhance program credibility and improve market perceptions. - Staff takes note of reaffirmation by European leaders to continue providing adequate support to Portugal until market access is restored provided the program remains on track. *Source: IMF staff report content provided in the supplied document.* ### 49. Staff supports the authorities’ request for completion of the third review and ### 49. Staff supports the authorities’ request for completion of the third review and request for a waiver of applicability of the end-March performance criteria. ### High-frequency activity and labor-market indicators - Confidence indicators (percent balance) show wide swings from Jan-08 to Jan-12 across Industrial and Consumer series (chart timeline: Jan-08 Sep-08 May-09 Jan-10 Sep-10 May-11 Jan-12). - Labor market: - Unemployment rate (series contains a structural break in 2011): listed in Table 1 as 7.6 (2008), 9.5 (2009), 10.8 (2010), 12.4 (2011), 12.7 (2012), 14.4 (2013), 14.0 (2014), 13.2 (2015), 12.4 (2016), 11.7 (2017), 11.1 (2020 projection). - Employment (yoy percent change) series shown in coincident indicators (chart). - Activity and consumption indicators: - Real GDP (year-on-year percent change) projections (Table 1): 0.0 (2008), -2.9 (2009), 1.4 (2010), -1.6 (2011), -1.5 (2012), -3.3 (2013), 0.3 (2014), 2.1 (2015), 1.9 (2016), 1.9 (2017), 1.5 (2020). - Private consumption (year-on-year percent change): 1.3 (2008), -2.3 (2009), 2.1 (2010), -3.9 (2011), -3.9 (2012), -5.8 (2013), -0.8 (2014), 1.1 (2015), 0.6 (2016), 0.8 (2017), 0.9 (2020). ### Labor costs and competitiveness (Figure 2) - Labor costs are down from pre-crisis peaks overall. - Labor costs have risen modestly less than in the Euro Area and some competitors in several sectors. - In some tradable services (including tourism) relative costs are declining. - Manufacturing (a key tradable sector) — costs are "not yet down in relative terms" compared with competitors. - Indexed labor cost series (Seasonally adjusted Index, 2008Q4 = 100) presented for Portugal, Spain, Germany across overall economy, manufacturing, business services, and accommodation and food services (series points: 95, 100, 105, 110 across 2008Q4–2011Q2). ### Financing of the economy and bank lending (Figures 3–4) - Private sector credit (percent change): series shows 8.7 (Dec-08), 3.4 (Mar-09), -0.2 (Jun-09), -1.6 (Sep-09), -1.6 (Dec-09), -2.9 (Mar-10), -2.3 (Jun-10), -1.7 (Sep-10), 0.8 (Dec-10), 2.3 (Mar-11)... - Interest rates (percent): Euribor - 6 mo and series for corporate lending, mortgage lending, corporate deposits plotted across Dec-08 to Dec-11. - Lending to households and NPISH (percent change) decomposed into external, domestic - housing, domestic - other. - Overall lending to firms (percent change) decomposed into external loans/securities and domestic loans/securities; sectoral bank lending to firms (percent change) for Construction, Manufacturing, Real estate activities, Wholesale and retail trade. - Bank lending to firms by firm size (Large, Medium, Small corporations) provided as percent change. - Credit constraints (Figure 4): - New lending (Millions of euro) plotted Mar-09 to Sep-11. - Companies reporting difficulties in accessing credit and restrictiveness of bank lending (diffusion index, where 100 = considerably increased restrictiveness, -100 = considerably reduced restrictiveness). - Credit Supply: Enterprises (Diffusion Index, percent) by firm size (SME vs Large) across 2008Q1–2011Q1. - Short-term loans vs Long-term loans credit supply diffusion indices across 2008Q1–2011Q1. - Manufacturing and Construction quarterly/annual series for NPL or related indicators (percent) Jan-01–Jan-11. ### Financial indicators and sovereign market stress (Figure 5) - Sovereign credit ratings timeline (Moody’s, S&P, Fitch) Dec-09 to Dec-11. - Government treasury bills yields (3-months, 6-months) series Jan-10 to Feb-12. - Bank and Sovereign 5-year Credit Default Swaps (Basis points) series Jan-10 to Feb-12; Portugal sovereign and major banks (BCP, BES). - 10-year government bond spread against Germany (percent) and 2-year bond yields shown for Portugal, Ireland, Spain, Italy, Greece (Greece on right scale). - Sovereign 5-year CDS comparison with Ireland and Greece. ### Debt sustainability—Government and External (Figures 6–7, Tables 9–10) - Government debt sustainability (public debt in percent of GDP) baseline and shocks: - Baseline public debt average projection figure shown as 111 (in figure boxes) and baseline path plotted 2006–2016. - Scenario boxes: Growth shock, PB shock, i-rate shock, Combined shock, Real depreciation and contingent liabilities shocks; example baseline/box numbers: - Baseline: 111; Growth shock: 120 (growth shock in percent per year). - PB shock: Baseline 111, PB shock 118. - Interest-rate shock: Baseline 111, i-rate shock 114. - Combined shock: Baseline 111, Combined 117. - Real depreciation and contingent liabilities shocks: Baseline 111, contingent liabilities shock 126, 30% depreciation 115. - Box shows baseline and scenario averages for primary balance, interest, and historical: examples: Baseline:2.2; Scenario:0.8; Historical:-2.3 (primary balance); Baseline:0.6; Scenario:-0.2; Historical:0.6 (other variable); Baseline:3.1; Scenario:3.6; Historical:2.3. - External debt sustainability (external debt in percent of GDP) baseline and shocks: - Baseline external debt averages: e.g., Baseline 198 (box), Historical 228. - Selected scenario box numbers: i-rate shock 213 (baseline 198), CA shock 202 (baseline 198), Combined shock 212, Real depreciation shock 195. - Average projections for growth, current account, interest in boxes (examples): Baseline:2.6; Scenario:4.1; Historical:2.6 (growth); Baseline:1.5; Scenario:0.7; Historical:0.3 (current account); Baseline:2.2; Scenario:1.3; Historical:-3.9 (interest or other). - Table 9: External Debt Sustainability Framework, 2007–2017 (percent of GDP and levels) - Baseline external debt path (percent of GDP): 195.5 (2007), 200.8 (2008), 223.8 (2009), 231.4 (2010), 229.6 (2011), 228.5 (2012), 224.0 (2013), 211.5 (2014), 205.5 (2015), 200.9 (2016), 197.7 (2017). - Gross external financing need (in billions of Euros): 187.1 (2009), 209.1 (2010), 182.3 (2011), 165.7 (2012), 159.5 (2013), 141.2 (2014), 138.1 (2015), 137.1 (2016). - Key macro assumptions: Real GDP growth series in Table 9: 2.4 (2007), 0.0 (2008), -2.9 (2009), 1.4 (2010), -1.5 (2011), -3.3 (2012), 0.3 (2013), 2.1 (2014), 1.9 (2015), 1.9 (2016), 1.5 (2017). - Table 10: Government Debt Sustainability Framework, 2007–2030 - General government gross debt (ESA 95): 68.3 (2007), 71.6 (2008), 83.1 (2009), 93.4 (2010), 106.8 (2011), 112.4 (2012), 115.3 (2013), 114.4 (2014), 112.8 (2015), 110.7 (2016), projected 102.7 (2020), 88.9 (2025), 77.1 (2030). - Change in public sector debt (percent of GDP): 4.6 (2007), 3.3 (2008), 11.5 (2009), 10.4 (2010), 13.3 (2011), 5.6 (2012), 2.9 (2013), -1.0 (2014), -1.6 (2015), -2.1 (2016). - Identified debt-creating flows (percent of GDP): 4.8 (2007), 2.5 (2008), 11.7 (2009), 7.5 (2010), 5.2 (2011), 9.3 (2012), 2.9 (2013), -1.5 (2014), -1.8 (2015), -2.1 (2016). - Primary deficit (percent of GDP): 0.2 (2007), 0.6 (2008), 7.3 (2009), 6.8 (2010), -0.1 (2011), -0.3 (2012), -1.7 (2013), -2.6 (2014), -2.9 (2015), -3.2 (2016). - Revenue and grants (percent of GDP): 41.1 (2007), 41.1 (2008), 39.7 (2009), 41.6 (2010), 44.7 (2011), 42.8 (2012), 42.6 (2013), 42.2 (2014), 42.0 (2015), 41.9 (2016). - Primary (noninterest) expenditure (percent of GDP): 41.4 (2007), 41.7 (2008), 47.0 (2009), 48.4 (2010), 44.6 (2011), 42.5 (2012), 40.9 (2013), 39.6 (2014), 39.1 (2015), 38.7 (2016). - Gross financing need (percent of GDP) and levels: e.g., 16.6 (2007), 17.3 (2008), 25.7 (2009), 27.8 (2010), 27.2 (2011), 26.7 (2012), 19.7 (2013), 20.3 (2014), 17.2 (2015), 23.0 (2016). ### Macroeconomic projections and fiscal outlook (Table 1, Tables 2a/2b) - Table 1 (selected indicators, year-on-year percent change unless noted) highlights: - GDP deflator: 1.6 (2008), 0.9 (2009), 1.0 (2010), 1.0 (2011), 1.0 (2012), 1.0 (2013), 1.3 (2014), 1.3 (2015), 1.4 (2016), 1.6 (2017), 1.5 (2020). - Consumer prices (harmonized index): 2.7 (2008), -0.9 (2009), 1.4 (2010), 3.6 (2011), 3.6 (2012), 3.2 (2013), 1.4 (2014), 1.5 (2015), 1.5 (2016), 1.5 (2017). - Unit labor costs (whole economy): 4.7 (2008), 3.8 (2009), -1.8 (2010), 0.2 (2011), -1.4 (2012), -2.3 (2013), -0.6 (2014), 0.0 (2015), 0.0 (2016), 0.0 (2017). - General government accounts (Table 2a, billions of euros): - Revenue: 67.0 (2009), 71.8 (2010), 74.7 (2011 Second Review), 76.7 (2011 Estimate), 71.6 (2012 Second Review), then 72.6 (2013), 74.4 (2014), 76.6 (2015), 79.1 (2016). - Expenditure (ESA95 net lending): Expenditure totals and components for 2009–2016; Net lending (EDP notification): -17.1 (2009), -16.9 (2010), -10.1 (2011 Second Review), -6.9 (2011 Estimate), -7.6 (2012 Second Review), then improving toward -3.4 (2016). - Debt at face value (EDP notification), billions euros: 139.9 (2009), 161.3 (2010), 184.2 (2011 Second Review), 183.3 (2011 Estimate), 195.9 (2012 Second Review), 188.5 (2013), 196.7 (2014), 201.6 (2015), 205.5 (2016), 208.9 (2017). - Table 2b expresses the same as percent of GDP: - Revenue: 39.7 (2009), 41.6 (2010), 43.5 (2011 SR), 44.7 (2011 Est), 42.5 (2012 SR), then 42.6 (2013), 42.2 (2014), 42.0 (2015), 41.9 (2016). - Net lending (EDP notification) as percent of GDP: -10.2 (2009), -9.8 (2010), -5.9 (2011 SR), -4.0 (2011 Est), -4.5 (2012 SR), improving to -1.8 (2016). - Primary balance (percent of GDP): -7.3 (2009), -6.8 (2010), -1.6 (2011 SR), 0.1 (2011 Est), 0.5 (2012 SR), 0.3 (2013), 2.9 (2014), 4.5 (2015), 5.4 (2016). ### External sector, balance of payments, and financing needs (Tables 5–6) - Balance of Payments (Table 5, billions of euro and percent of GDP): - Current account (billions): -21.7 (2008), -18.4 (2009), -17.2 (2010), -11.0 (2011), -7.2 (2012), -6.2 (2013), -5.7 (2014), -5.7 (2015), -5.6 (2016), -5.5 (2017). - Current account (percent of GDP): -12.6 (2008), -10.9 (2009), -10.0 (2010), -6.4 (2011), -4.3 (2012), -3.6 (2013), -3.2 (2014), -3.1 (2015), -3.0 (2016), -2.8 (2017). - Trade balance (goods): -23.0 (2008), -17.8 (2009), -18.2 (2010), -13.2 (2011), -8.7 (2012), -7.9 (2013), -7.7 (2014), -7.7 (2015), -7.9 (2016), -8.2 (2017). - Exports fob: 39.2 (2008), 32.0 (2009), 36.9 (2010), 42.6 (2011), 44.6 (2012), 47.4 (2013), 50.7 (2014), 53.8 (2015), 57.1 (2016), 60.6 (2017). - Imports fob: 62.2 (2008), 49.8 (2009), 55.1 (2010), 55.8 (2011), 53.3 (2012), 55.3 (2013), 58.3 (2014), 61.4 (2015), 65.0 (2016), 68.9 (2017). - External financing (Table 6, gross financing requirements in billion euros): - GROSS FINANCING REQUIREMENTS: 170.5 (2009), 187.1 (2010), 209.1 (2011), 182.3 (2012), 165.7 (2013), 159.5 (2014), 141.2 (2015), 138.1 (2016), 137.1 (2017). - FINANCING GAP: 0.0 (2009), 0.0 (2010), 38.1 (2011), 25.0 (2012), 10.0 (2013), 5.1 (2014), 0.0 (2015), 0.0 (2016), 0.0 (2017). - EU (2/3) and IMF (1/3) prospective financing in 2011–14: EU 25.4 (2011), 16.7 (2012), 6.7 (2013), 3.4 (2014); IMF 12.7 (2011), 8.3 (2012), 3.3 (2013), 1.7 (2014). - Rollover rates: General government 158.2 (2009), 107.5 (2010), 29.7 (2011), 31.0 (2012), 101.8 (2013), 97.1 (2014), 137.7 (2015), 188.0 (2016), 167.2 (2017). ### Banking system and monetary indicators (Tables 7–8) - Selected banking-system indicators (Table 7): - Regulatory capital to risk-weighted assets: 10.4 (2007), 9.4 (2008), 10.5 (2009), 10.3 (2010), 10.5 (2011), 10.1 (2011Q1), 9.3 (2011Q3). - Regulatory Tier 1 to risk-weighted assets: 7.0 (2007), 6.6 (2008), 7.9 (2009), 8.3 (2010), 8.6 (2011), 8.5 (2011Q1), 8.2 (2011Q3). - Nonperforming loans to total gross loans (consolidated, new NPL ratio): 2.8 (2007), 3.6 (2008), 4.8 (2009), 5.2 (2010), 5.5 (2011), 6.2 (2011Q1), 6.9 (2011Q3). - Return on assets and equity: ROA 1.2 (2007), 0.3 (2008), 0.4 (2009), 0.5 (2010), 0.5 (2011), 0.3 (2011Q1), 0.1 (2011Q3). - Monetary survey and aggregate MFI balance sheet (Table 8): - Aggregated MFI assets (end-period, millions of euros): 490,919 (Dec-10), 472,843 (Dec-11), 447,575 (Dec-12), 443,246 (Dec-13), 441,347 (Dec-14), 448,885 (Dec-15), 461,255 (Dec-16). - Broad Money (M3) levels: 174,748 (Dec-10), 171,071 (Dec-11), 169,819 (Dec-12), 173,214 (Dec-13), 179,522 (Dec-14), 185,721 (Dec-15), 191,757 (Dec-16). - Private sector credit (end-period): 279,713 (Dec-10), 275,161 (Dec-11), 267,168 (Dec-12), 261,151 (Dec-13), 256,728 (Dec-14), 258,671 (Dec-15), 264,634 (Dec-16). - Loan-to-deposit ratio (memo): 155.4 (Dec-10), 140.8 (Dec-11), 137.3 (Dec-12), 130.4 (Dec-13), 123.3 (Dec-14), 121.4 (Dec-15), 121.1 (Dec-16). ### Program financing, IMF access, and phasing (Tables 11–12) - Access and phasing under the Extended Arrangement, 2011–14 (Table 11): - Board approval of Extended Arrangement: May 20, 2011 — Purchase 5,611 (in millions of SDRs; percent of quota 544.9). - First review (Sept 9, 2011): Purchase 3,467 (336.7 percent of quota). - Second review (Dec 15, 2011): Purchase 2,425 (235.5 percent of quota). - Third review (Mar 15, 2012): Purchase 4,443 (431.5 percent of quota). - Fourth review (Jun 15, 2012): Purchase 1,197 (116.2 percent of quota). - Fifth review (Sep 15, 2012): Purchase 1,259 (122.3 percent of quota). - Sixth through twelfth reviews list further purchases totaling 23,742 (2,305.7 percent of quota) across 2011–14 under the program schedule. - Indicators of Fund credit (Table 12): - Disbursements (in millions of euros): 12,597 (2011), 8,348 (2012), 3,347 (2013), 1,708 (2014), ... ; in percent of quota: 1,127 (2011), 740 (2012), 297 (2013), 152 (2014). - Projected total debt service to the Fund (interest and charges; repayments): interest and charges series: 13 (2011), 395 (2012), 628 (2013), 827 (2014), 1,484 (2015), 3,543 (2016), 4,423 (2017), 4,842 (2018), 4,808 (2019). - Outstanding stock (in millions of euros) and percent of quota: Outstanding stock 12,597 (2011), 20,945 (2012), 24,292 (2013), 26,000 (2014), 25,488 (2015), 22,874 (2016), 19,257 (2017), 15,066 (2018), 10,733 (2019). Percent of quota: 1,117.1 (2011), 1,857.4 (2012), 2,154.2 (2013), 2,305.7 (2014), 2,260.3 (2015), 2,028.5 (2016), 1,707.7 (2017), 1,336.1 (2018), 951.8 (2019). - Outstanding stock as percent of GDP: 7.3 (2011), 12.5 (2012), 14.2 (2013), 14.7 (2014), 14.0 (2015), 12.1 (2016), 9.5 (2017), 7.2 (2018), 4.9 (2019). ### Key analytic findings and policy-relevant projections (synthesized from figures and tables) - Near-term macro outlook (Table 1): - Real GDP contracts in 2012 and 2013: -1.5 (2012) and -3.3 (2013) before recovering to 0.3 (2014) and stronger growth thereafter. - Unemployment peaks above 14.4 percent in 2013 then gradually declines in projections to 11.1 (2020). - Inflation (GDP deflator) remains low: 1.0 percent annual in 2011–2013, modestly rising to 1.6 (2017). - Fiscal path and sustainability: - General government net lending (EDP notification) improves from -10.2 (2009) to -5.9 (2011 SR) and projected further to -1.8 (2016). - Primary balance turns positive in projections: Primary balance (percent of GDP) moves from -12.2 (2009 in Table 2a memorandum) toward positive territory, with primary balance (billions) and percent of GDP improving to 5.4 (2016) in program projections (Table 2a/2b memoranda). - General government gross debt (EDP notification) rises to a peak in early projections (184.2–196.7 billion euros) before gradually stabilizing and declining in later years toward 110.7 percent of GDP (2016) and further to 77.1 (2030) under baseline assumptions (Table 10). - External financing and market access: - Gross external financing needs are sizable through 2014–2016 (e.g., 182.3 in 2011; 165.7 in 2012; 159.5 in 2013). - Prospective EU and IMF financing absorbe the projected financing gap in 2011–14 (EU 2/3 + IMF 1/3 split), with IMF provision of 12.7 (2011), 8.3 (2012), 3.3 (2013), 1.7 (2014) as part of prospective financing. - Risks and scenario analysis: - Debt sustainability bound tests indicate vulnerability to combined shocks (growth, interest rate, primary balance, real depreciation, contingent liabilities). Example scenario values: combined shock raises public debt from baseline 111 to 117 or higher depending on shock composition. - External debt is sensitive to interest-rate and current account shocks; baseline external debt around 198 (percent of GDP box) can rise appreciably under adverse shocks. - Banking sector vulnerabilities: - Rising nonperforming loans (NPLs) through 2011Q3: NPL ratio reaches 6.9 (2011Q3). - Loan-to-deposit ratios and wholesale funding reliance highlight liquidity pressures: loans-to-deposits around 155.4 (Dec-10) falling to ~121.1 (Dec-16 projected), wholesale market funding as percent of assets ~34.0 (Dec-10) declining in projections. *Sources: Bank of Portugal; Ministry of Finance; National Statistics Office (INE); Eurostat; and IMF staff projections. Data as of end-February 2012.* ### Introduction and Summary ### Introduction and Summary ### Overview and purpose - Presents an updated analysis of Portugal’s government debt sustainability, building on earlier analysis (IMF Country Report No. 11/363) with focus on more country-specific risks to inform stress tests and alternative scenarios. - Particular attention to lower growth scenarios, sensitivity to interest rate assumptions, risks from fiscal consolidation (including long-term expenditure pressures), and contingent liabilities. ### Key headline findings - Baseline: debt peaks at some 115 percent of GDP in 2013 and then gradually declines to below 80 percent of GDP by 2030. - Debt rose sharply since the crisis—from below 70 percent of GDP in 2007 to close to 107 percent of GDP at end-2010. - Risks are significant; mitigating them requires continued fiscal discipline, strengthened fiscal institutions, SOE restructuring, and reforms to boost competitiveness and potential growth. ### Immediate policy implication - Fiscal consolidation must continue—underpinned by a strengthening of fiscal institutions and SOE restructuring—together with reforms to boost competitiveness and potential growth to keep public finances on a sustainable path, regain market confidence, and bring borrowing costs down. ### Additional mitigation advice - Identify early mitigating strategies and reforms that generate fiscal space over the medium to long term to offset additional outlays or risks. --- ### Past trends and debt structure - Sharp increase in general government debt: from below 70 percent of GDP in 2007 to close to 107 percent of GDP at end-2010, reflecting an increase in the general government fiscal deficit, reclassifications of SOEs and PPPs into general government, and other debt-creating flows. - State debt represents the major part of general government; local and regional government and SOEs account for about 5 and 13 percent of GDP, respectively. - Government debt, including that of SOEs, is mostly expressed in Euros and at fixed rate, reducing foreign exchange and interest rate risks. - Explicit State guarantees amounted to about 10 percent of GDP at mid-2011. - Bank Solvency Stability Fund: EUR 12 billion (baseline conservatively assumes full use to recapitalize banks). - Portugal’s PPP program: cumulative investments about 20 percent of current GDP, or about 13 percent of GDP of depreciated investments; PPP-related annual debt-like payments peak in 2015. --- ### Baseline projections and assumptions - Growth: - Growth projection for 2012–13 revised down slightly (by a cumulative 1½ percentage points over the forecast period) compared to the second program review. - Scenario of a cyclical recovery starting in 2014. - Staff’s medium-term growth projections conservatively assume no significant payoff from structural reforms. - Baseline assumes actual growth converges to its potential of 2 percent by 2020. - Potential growth compared to average growth over 1999–2007 of 1.8 percent. - Price dynamics: - Gradual convergence of the GDP deflator inflation to the long-term ECB objective of 2 percent. - Interest rates: - Baseline assumes Portugal returns to markets in mid-2013 at yields on medium- and long-term debt of about 7 percent. - Yields decline gradually to 5 percent over the next four years and remain stable thereafter. - This entails real effective interest rate of about 3 percent over 2015–30. - Average effective interest rate on government debt increases gradually from 4¼ in 2011 percent to 5¼ by 2030. - Fiscal adjustment: - Debt sustainability strongly depends on full implementation of the programmed large cumulative improvement in the structural primary balance, of 9½ percent of GDP over 2010–14. - Baseline assumes policies broadly unchanged thereafter, with the structural primary balance stable at 3¼ percent of GDP. - The debt path reflects the one-off €1.5 billion repayment of domestic arrears in 2012 as agreed under the program; other arrears (2.2 percent of GDP) assumed to be settled over time out of the various responsible entities’ own resources. - Baseline projection result: - Debt peaks at about 115 percent of GDP in 2013 and is projected to gradually decrease to 80 percent of GDP by 2030. - Over the medium term, the primary balance exceeds the projected real interest rate–growth differential (of about 1 percentage point percent), allowing for a steady decline in the debt-to-GDP ratio. --- ### Alternative fiscal adjustment paths (scenarios) - Scenario 1 (upside): - Structural deficit brought to (and kept at) 0.5 percent of GDP in 2015 (thereafter), consistent with the medium-term budget framework. - Under this scenario, debt would be brought down to 68 percent of GDP by 2030 and would meet the 1/20th rule related to the debt ratio. - Scenario 2 (moderate downside: fiscal slippage): - Fiscal slippages push primary balances higher than under the baseline by 1 percent of GDP over the whole forecast period—primary surplus at 2¼ percent of GDP on average over 2015–30. - Under this scenario, debt would peak at 117 percent of GDP in 2014 and gradually decrease to 95 percent of GDP by 2030. - Scenario 3 (downside: unaddressed long-term spending pressures): - Spending profile less favorable as long-term pressures (mainly health costs) are taken into account, assuming no offsetting fiscal adjustment. - Primary balance deteriorates relative to baseline with relative gap increasing to about 3.5 percent of GDP by 2030. - Additional health expenditure assumed to increase the deficit by close to 0.2 percent of GDP per year over the forecast period. - Additional expenditure of about 0.3 percent of GDP per year included to account for increase in PPP-related spending over 2014–18. - Under this scenario, debt would stabilize but remain above 110 percent of GDP over the forecast period. - Note on fiscal rules: - Portugal’s medium-term budget framework law implies that, starting in 2015, the structural deficit cannot exceed 0.5 percent of GDP—an objective only reached by 2030 under staff’s baseline. - Under the “fiscal compact” Portugal will need to reduce its gross debt/GDP ratios at a pace equal to 1/20th of the distance between the current level and the 60 percent target (rule applies three years after ongoing EDPs are completed). --- ### Sensitivity analysis: growth, interest rates, and contingent liabilities - Lower growth scenarios: - Deeper recession (cumulative growth over 2012–14 lower by 5 percentage points): - Assuming nominal primary expenditure is rigid during 2012–15 and no additional measures, debt peaks at 126 percent of GDP in 2015 and declines gradually to 90 percent of GDP by 2030. - Lower potential growth (converging toward 1 percent instead of 2 percent under the baseline): - Debt declines gradually to 90 percent of GDP by 2030 assuming, except for the interest bill, expenditure lines can adjust to the lower GDP path and remain stable in relative terms compared to the baseline. - Extreme assumption: freezing nominal primary expenditure at the level of the baseline would result in explosive debt dynamics. - Interest rate shocks: - Fixed-rate debt is a large proportion of total debt, minimizing impact of interest rate shocks, but scenarios considered: - 200 bps increase in medium- and long-term debt interest rate starting at market re-access in mid-2013 and sustained for the whole forecast period (no policy response): debt still peaks in 2013, but declines much more gradually to 95 percent of GDP by 2030. - 200 bps increase in interest rates on all types of liabilities, including short-term debt: debt declines, but remains above 100 percent of GDP by 2030. - Temporary three-year increase in interest rates of 400 bps (for all types of debt): debt still peaks at below 116 percent of GDP, but pace of debt decline slows substantially, with debt close to 110 percent of GDP by 2020. - Contingent liabilities shock: - Contingent liabilities are large: explicit State guarantees about 10 percent of GDP at mid-2011; part of debt of non-financial SOEs that do not consolidate (total 10½ percent of GDP at end-2011) may be implicitly guaranteed. - Considering PPP exposure and other contingent liabilities, a 15-percent of GDP contingent liability shock is applied. - Assuming no policy response, debt would stabilize in 2013 at around 130 percent of GDP and gradually decline to about 90 percent of GDP by 2030. --- ### Downside risks and summary judgement - Downside risks to the baseline fiscal consolidation and long-term fiscal path are significant due to: - Possible policy slippages, including failure to fully implement the fiscal consolidation package. - Long-term expenditure pressures, mainly from projected rise in health costs and PPP-related expenditure. - Overall DSA conclusion: - Risks are significant; mitigation requires continued fiscal discipline, sustained strong reform effort, strengthened fiscal institutions, SOE restructuring, and reforms to boost competitiveness and potential growth. *Source: Introduction and Summary (Updated DSA) — IMF staff analysis as presented in the provided content.* ### 3. Wide-ranging fiscal structural reform efforts will continue to reduce fiscal risks to the ### 3. Wide-ranging fiscal structural reform efforts will continue to reduce fiscal risks to the consolidation process ### Fiscal structural reform and public administration - Improved budget monitoring system with monthly assessments of deviations against fiscal targets to allow timely corrective interventions. - Successfully merged tax, customs, and IT services into the Autoridade Tributária e Aduaneira to improve revenue administration efficiency. - Progressing with a deep-seated reform of public administration: consolidating administrative units and rationalizing managerial practices to increase efficiency and cost-effectiveness. - Plans to restructure the SOE sector proceeding well; objective to reach operational balance for the sector as a whole by end-2012. - Signed a financial arrangement with the Autonomous Region of Madeira in January. ### Financial system stability and bank support - Continue to monitor pace and composition of deleveraging to ensure consistency with the program’s macroeconomic framework. - Emphasis that sufficient credit must be available to productive SMEs and exporting firms to support economic recovery. - Banks have been strengthening capital positions without recourse to public funds to date. - Authorities stand ready to support banks’ efforts to meet additional capital needs by end-June 2012 through provision of public resources on appropriate terms. - BdP will continue to discourage ever-greening of problematic loans and plan additional measures to facilitate effective adjustment of bank balance sheets without burdening public finances. - Ministry of Finance, BdP, and stakeholders will prepare a proposal to encourage diversification of financing alternatives to the corporate sector (end-July structural benchmark). ### Competitiveness, labor market, and regulatory reforms to promote growth and employment - Agreement with social partners on a broad labor market reform to increase flexibility by introducing banks of hours and reducing the cost of dismissals. - Reform promotes wage-setting mechanisms that take account of economic conditions and raises productivity by cutting the number of holidays. - Measures committed to reduce excess rents in the electricity sector and alleviate pressure on consumer prices. - Comprehensive revision to the Competition Law sent to Parliament (end-January structural benchmark). - Efforts to reduce government-imposed burdens on doing business, including reducing licensing and other legal requirements for firms. - Revised urban lease law to promote geographical mobility; progress on judicial system reform. ### Requests under the program and program-related actions - Request completion of the third review under the Extended Arrangement. - Request the fourth purchase under the arrangement in the amount of SDR 4,443 million. - Request waivers of applicability of the end-March performance criteria. - MEFP proposes prior actions in fiscal area and new structural benchmarks across fiscal, structural reform, regulatory reform, financial sector, and judicial process. Examples include: - Bring the Large Taxpayer Office to full operation by December. - Develop a strategy to unwind the public holding company Parpública by April 2012. - In electricity, eliminate the Power Guarantee investment incentive for plants existing or licensed prior to the decree law governing the incentive, and set new reference tariffs for the cogeneration regime, both by April 2012. - Implement key recommendations from the independent report on the main sectoral regulators by mid August 2012. - Implement amendments to the corporate insolvency law by mid-June 2012. - Prepare a proposal on diversifying financing options for corporations by end-July 2012. - Submit to Parliament amendments to the Code of Civil Procedure and a bill to implement the judicial roadmap to improve court structure, both by September 2012. ### Macroeconomic outlook (high-level) - Good export performance led to better-than-expected macro outcome in 2011 relative to program projections. - Outlook for 2012 growth weakened due to lower external demand and domestic consolidation efforts. - Expect a decline in domestic output of about 3¼ percent in 2012, compared with 3 percent at the time of the second review last December. - Labor market deterioration in Q4 2011 requires careful monitoring. - After a sizeable 3½ percent of GDP improvement in the current account balance in 2011, further adjustment is expected in 2012. - Policies to reduce production costs will be implemented and re-examined to support durable external adjustment. ### Fiscal policy outcomes and 2012 outlook - Central fiscal objective: bring the primary balance up to over [2] percent of GDP and stabilize debt by 2013; remains on track. - General government deficit estimated at 4 percent of GDP in 2011—against a 5.9 percent of GDP target. - Over-performance reflects one-off revenues from partial transfer of banks' pension funds to the state social security system (3½ percent of GDP). - Structural adjustment excluding one-off factors was large—“in the order of 3½ percent of GDP for the primary structural balance.” - Continuous indicative target on non-accumulation of domestic arrears breached in October and November, but overall stock of arrears reduced by €300 million in December to below the September level (€5.3 billion). - 2012 deficit objective of 4.5 percent of GDP entails another 4 percent of GDP of structural adjustment and is considered achievable despite downside risks. - Expected offsets to weaker revenues include savings on net interest payments (transfer of pension funds’ assets and lower margins on EFSF/EFSM loans) and net project spending reprogramming of EU co-financing. - A supplementary budget will be submitted to parliament mainly to regularize revenue and expenditure developments that largely offset each other. - At this stage, no additional fiscal measures seem necessary to attain the 2012 fiscal objectives, but vigilance will be maintained. ### Containing fiscal risks — Public Financial Management - Improved budgetary monitoring via monthly assessments. - By end-June 2012 prepare a proposal to (i) reduce budget fragmentation and (ii) assess scope to expand coverage of the Single Treasury Account. - Fiscal risks statement to be finalized by April 2012 and included in the Fiscal Strategy Program. - Reschedule lower priority measures such as move to full accrual-based IPSAS accounting to be adopted in 2014. - Arresting and reversing domestic arrears accumulation is a priority: - Two-pronged strategy: (i) implement new system of expenditure commitment controls to halt the flow of arrears; (ii) comprehensive plan to settle the stock of arrears over time. - New law on spending commitment controls already in force; focus on swift implementation across general government and SOE hospitals. - Inspectorate General of Finance (IGF) will verify compliance of commitment control systems with the new law. - Revised strategy document to clear the stock of arrears to be approved by the Council of Ministers (prior action) before the supplementary budget is submitted to Parliament. - Priority to settle health sector arrears caused by chronic underfunding over past years (€1.5 billion). - Local governments to reduce their stock of arrears by ten percent as envisaged in the 2012 budget. - IGF will validate claims (valuation, existence, title, age); strong safeguards to ensure payments only for properly validated arrears and entities that have changed commitment systems. ### Containing fiscal risks — State-Owned Enterprises (SOEs) - Objective to reach operational balance for the SOE sector as whole by end-2012. - Cost reductions proceeding well; voluntary redundancy program take-up above expectations. - Tariff increases substantially reduced deficits in the transport sector. - Projections of exceptional financing needed for SOEs lowered to less than half of what was needed in 2011. - Will maximize voluntary worker benefit cost reductions before involuntary redundancies. - If operational balance by end-2012 is jeopardized, additional measures will be implemented as appropriate. - Need to address debt overhang of several SOEs (notably Comboios de Portugal (CP) and Parpública) that are unlikely to cover liabilities from own resources over next years. - Based on the study on financial conditions of SOEs (completed [in March]), develop specific programs for unwinding Parpública (structural benchmark for end-April 2012) and managing liabilities of CP and other firms outside the General Government (by end-June 2012). - Privatization program underway: EDP and REN attracted strong bids and sales at higher-than-expected prices; new investors to bring external financing. - Planned privatizations/concessions: - Launch privatization processes for airport operator ANA and airline TAP in second and early third quarters 2012, with view to complete in 2012. - Launch privatization/concession of CP Carga in second quarter of 2012. - Partial sale of RTP being considered in 2012. - Considering privatization of postal company CTT in 2013 once regulatory changes take full effect. - By end-2012 prepare strategy assessing competitive and regulatory environment and organisational consequences of introducing private capital/management in Águas de Portugal. ### Containing fiscal risks — Public-Private Partnerships (PPPs) - New fiscally-prudent PPP institutional framework to be adopted and approved by Council of Ministers by end-March 2012; will enhance MoF role across project life-cycle. - Tender launched to hire top-tier accounting firm to review all PPP contracts (end-2011 structural benchmark); winning bid selected in March 2012. - All PPP contracts now publicly available (except confidentiality clauses). ### Containing fiscal risks — Revenue Administration - Creation of Autoridade Tributária e Aduaneira through merger of tax, customs, and IT services. - Implementing Plan to Combat Fraud and Evasion and targeted measures to curb non-compliance. - Property evaluation process underway with local government support; should be finalized by end-December 2012. - 2011 task force of judges more than doubled pace on high-value tax cases relative to previous year; commitment to clear remaining high-value tax cases in courts. - Develop modern tax compliance management framework: - Conclude implementation of full-fledged Large Taxpayers Office (LTO) by end-December 2012 (structural benchmark). - Assess need to create special chambers within tax tribunals to handle high-value cases by mid-November 2012. - Analyze impact of VAT issues on backlog and assess options by end-April 2012. - Publish quarterly reports on recovery rates, duration and costs of tax cases starting in 2012 Q2 within four months after end of each quarter. ### Containing fiscal risks — Regional and Local Public Finances - Working group established to revise regional and local public finance laws on new timeline. - Some goals achieved through program with Autonomous Region of Madeira concluded January 2012. - Submit revised regional and local finance laws to Parliament by end-December 2012 (resetting the end-March structural benchmark and adopting a new structural benchmark on submission of the local finance law). ### Protecting the financial system amidst deleveraging and sovereign crises - Deleveraging of the economy remains a key objective; must be orderly to avoid undue funding strains for productive firms, SMEs, and tradable sector firms. - Mitigating developments include easing of bank liquidity pressures, recapitalization envisaged under the program, and reduction in public sector financing needs from fiscal consolidation and SOE restructuring. - ECB measures (longer-term refinancing operations, reduction of reserve ratio, broadening of collateral eligibility) help ease constraints to bank lending. - Encourage banks to strengthen collateral buffers and reduce dependence on Eurosystem liquidity over medium term. - Proceeds of partial transfer of banks’ pension funds to be used in agreement with EC, ECB and IMF: - Agreement reached with banks on modalities respecting EU state aid rules. - First tranche completed by end-2011; second tranche to be delivered by banks during first semester of 2012. - Intention to utilize proceeds to augment financing buffers under the program. - Will carry out a credit assignment of up to €3 billion from the banks to the general government—subject to strict eligibility criteria—while maintaining contractual obligations of the debtors. *Source: _cr1277 - 3. Wide-ranging fiscal structural reform efforts will continue to reduce fiscal risks to the (IMF Memorandum of Economic and Financial Policies, March 15, 2012)* ### 17. Banks have successfully strengthened their capital positions. All but two banking ### 17. Banks have successfully strengthened their capital positions. All but two banking groups subject to BdP supervision met the 9 percent Core Tier 1 target set under the program ### Banking sector capital and near-term actions - All but two banking groups subject to BdP supervision met the 9 percent Core Tier 1 target set under the program for end-2011. - The target was met by all the eight largest banks of these banking groups (accounting for 83 percent of the banking system’s assets). - BdP is reviewing banks’ plans for meeting additional capital needs by end-June 2012, driven by: - new requirements announced by the European Banking Authority (EBA) in December 2011; - capital needs from the partial transfer of banks' pension funds; - findings of the special on-site inspections program (SIP). ### Bank Solvency Support Facility (BSSF) and stress testing - The Bank Solvency Support Facility (BSSF) remains available to support viable banks under the program. - While banks continue to seek private solutions to augment capital, some resources of the BSSF will need to be deployed to help some viable banks meet the additional capital needs. - BdP will continue to assess the banking sector’s resilience via quarterly stress tests starting in June 2012, to be reviewed jointly with the EC, ECB and IMF. ### Public capital support framework and conditionality - Work on rules governing the provision of public capital support to banks has been completed. - The amended law on extending temporary public support to viable banks entered into force on February 12, 2012; the accompanying Ministerial Order (“Portaria”) is being finalized after consultation with stakeholders. - Legislation and acceptable capitalization instruments will be consistent with EU state aid rules. - Banks receiving public support will face strict conditionality aimed at: - protecting taxpayers’ interests; - enhancing banks’ resilience via fundamental restructuring, better risk control, and corporate governance. - The legislation foresees a public divestment period of maximum five years. - Soundly run banks that comply with recapitalization plans may remain privately managed; shareholders can redeem the public share during the divestment period. - BdP will closely monitor and supervise banks receiving public support and provide quarterly status reports to the Minister of Finance. ### Caixa Geral de Depósitos (CGD) - CGD met the Core Tier 1 capital ratio target of 9 percent by end-2011 through internal resources within the given timeline. - The EBA capital exercise and the requirement to build an additional buffer for sovereign exposures created the need to raise additional capital that cannot be met through internal resources within the given timeline. - The authorities stand ready to support CGD to meet additional capital needs by end-June 2012, from cash buffers outside of the BSSF, in line with EU state aid rules. - The Portuguese government, as shareholder, will encourage CGD to: - finalize the sale of its insurance arm to a third party before end-2012; - initiate the sale of non-strategic participations and review CGD’s overall portfolio. ### Banco Português de Negócios (BPN) and distressed assets - Negotiations on the sale of BPN are expected to be completed by end-March 2012. - Separation of distressed assets from BPN has been completed. - The government remains committed to a transaction that minimizes costs to taxpayers and the economy while safeguarding financial stability. - Once a final solution for BPN is found: - CGD’s state guaranteed claim will be gradually settled in cash; - any recoveries in assets held by state-owned SPVs will be used promptly to repay CGD. - The authorities will develop and implement, by end-March 2012, a more effective strategy for recovery of distressed assets and management of the SPVs. - An audit (complying with procurement laws) to confirm prospective recoverable value of distressed assets held by state-owned SPVs will be commissioned and completed by the time of the fourth review. ### BdP supervisory capacity and coordination - BdP is hiring specialist resources and has established a new division to: - enhance the supervisory organization and improve supervisory staff competences; - optimize supervisory processes; - maintain and develop supervisory methodologies and tools. - The new division will ensure SIP experiences are disseminated across BdP supervisory functions. - Steps taken to improve coordination with home and host country supervisors, both within and outside the EU. ### Early intervention, resolution, and deposit insurance - Legislative amendments to strengthen early intervention, resolution, and deposit insurance frameworks have been passed. - Authorities are examining implementation details to render fully operational the recently established resolution fund and to put in place its funding arrangements. - Planned regulatory actions and timelines: - Pass regulations relating to the resolution fund and notices for recovery and resolution plans by July-2012. - Issue notices for the establishment of bridge banks by end-September 2012. - Implement the EU Directive on resolution as soon as it enters into force. ### Corporate insolvency and SME support - Corporate insolvency law amendments to support better early rescue of viable firms (end-December 2011 structural benchmark) were: - approved by the Council of Ministers in December 2011; - approved by Parliament on March 9. - These amendments will become effective by mid-June 2012 (structural benchmark). - Authorities will step up actions to raise public awareness of the new restructuring tools. - SME support measures: - A report assessing consistency, effectiveness, and impact of existing support measures will be revised by end-June 2012. - The report will discuss policy actions to facilitate access to credit, encourage internationalization, and improve SME competitiveness while respecting EU competition rules. - Amendments to the conciliation framework mediated by IAPMEI to facilitate extrajudicial corporate debt restructurings for viable SMEs are being finalized. ### Structural reform: growth and competitiveness (highlights) - Competition framework: - A comprehensive revision to the Competition Law has been sent to Parliament; approval is expected by mid-year. - Review of the public procurement code to ensure transparency in public contracts was to be approved by March 2012. - Proposal to implement best international practices to reinforce independence of main sectoral regulators targeted by mid-August 2012 (structural benchmark). - Margins in regulated non-tradable sectors and electricity sector measures: - Measures identified to reduce mark-ups and eliminate by 2020 the tariff deficit. - An independent negotiator will be appointed by end-March 2012; progress to be discussed during the fourth program review. - CMECs: negotiate revision of the rate of return to align with cost of capital at the time compensation was defined plus, if warranted, a risk premium linked to asset risk; objective to reduce rents and stabilize the tariff debt (défice tarifário). - Co-generation incentives: revise remuneration scheme and create a transitional regime with declining tariffs; publish the Executive Order defining the new reference tariff and updating formula by end-April 2012 (structural benchmark). - These measures are estimated to reduce policy costs implicit in electricity prices starting at €25m per year in 2012, rising to €80m in 2020. - Power Guarantee Investment Incentives: eliminate, by end-April 2012, the incentive for power plants existing or already licensed prior to the 2007 Decree Law (264/2007) (structural benchmark). - Redesign the Power Guarantee mechanism to incentivize additional future generating capacity considering security of supply and other mechanisms. - These measures are estimated to reduce policy costs by about €60 million per year. - Wage competitiveness and labor market adjustments: - Suspended the practice of virtually automatic extension of most collective agreements; extensions only when agreements are clearly representative. - Improved conditions for works councils to negotiate working time arrangements and remuneration via “organized decentralization” in Labor Code revisions currently in Parliament. - Eliminated four holidays and three paid holiday bonus days (that were due in the case of no absenses), contributing to reduction in unit labor costs. - Further assessments and actions: - Provide evidence by end-March 2013 on application of firm-level bargaining flexibility; if needed, prepare an action plan by end-[June 2013] to ensure works councils can negotiate wages at firm level. - Collect data on representativeness of social partners; consider extending collective agreements subscribed by employer’s associations representing at least 50 percent of workers in the sector; decisions will consider preventing undue burden on non-affiliated firms and implications for external competitiveness. - Employment measures: - Short-term stimulus programs with wage subsidies for firms that hire and train workers registered with public employment services (PES) and meeting conditions. - Considering measures to lower reservation wages for certain unemployed categories by topping up wages with a share of unemployment benefits. - Tackling youth employability in the context of a cross-country task force. - Unemployment benefits: introduced a declining profile, reduced maximum monthly amount, and shortened maximum benefits duration. - Prepare by end-December 2012 an analysis on benefit dependency and long-term unemployment to assess whether further measures are needed; if needed, take measures to minimize distortions to employability by end-March 2013. - Housing reform: - Changes in the Urban lease law and draft legislation to simplify administrative procedures for renovation have been submitted to Parliament as planned. - Judicial reform: - About 50,000 enforcement cases cleared since last November; an inter-agency task force set quarterly targets for closing enforcement cases by mid-May. - Develop measures by end-May to resolve pending small claim cases. - Action plan to strengthen legal and institutional framework for enforcement agents to be refined by mid-May; ensure full access to enforcement case files by end-June. - Overhaul of the information system to speed processing of court cases. - Court system efficiency: ten court sections closed since November; comprehensive judicial roadmap developed to reduce number of courts and streamline structure. - A proposal to amend the Code of Civil Procedure has been prepared; extensive consultations and workshops with IMF and EC technical assistance planned in April. - Alternative dispute resolution (ADR): measures adopted to give priority to ADR enforcement cases in courts; arbitration centers fully operational (end-February structural benchmark). - Bill to improve the Justice for the Peace regime prepared; to be submitted to Parliament by end-September (to be informed by the judicial roadmap). *ATTACHMENT III. PORTUGAL: TECHNICAL MEMORANDUM OF UNDERSTANDING — March 15, 2012* ### 1. This Technical Memorandum of Understanding (TMU) sets out the understandings ### This Technical Memorandum of Understanding (TMU) sets out the understandings ### Purpose and scope - Sets out definitions of indicators subject to quantitative targets (performance criteria and indicative targets) specified in tables annexed to the Memorandum of Economic and Financial Policies. - Describes methods for assessing Program performance and the information requirements to ensure adequate monitoring of targets. - Authorities will consult with the EC, the ECB, and the IMF before modifying measures in this letter or adopting new measures that would deviate from the goals of the Program, and will provide the EC, the ECB, and the IMF with necessary information for Program monitoring. ### Exchange rates and valuation rules - All foreign currency-related assets, liabilities, and flows will be evaluated at “Program exchange rates” for Program purposes, except items affecting government fiscal balances, which will be measured at spot exchange rate prevailing on the date of the transaction. - The Program exchange rates are those that prevailed on May 5, 2011: - €1 = 1.483 U.S. dollar - €1 = 116.8390 Japanese yen - €1.09512 = 1 SDR ### Reporting standards and agencies - For reporting purposes, the MoF and BdP will employ reporting standards and templates considered appropriate given the transmission of data covered by this TMU, unless otherwise stated or agreed with the EC, the ECB and the IMF. - Performance under the Program will be monitored from data supplied to the EC, the ECB, and the IMF by the MoF and BdP. The authorities will transmit any data revisions in a timely manner. ### Definition of General Government (per Budget Framework Law, Law No. 91/2001 of August 20, amended by Law 22/2011 of May 20) - General Government includes: - 4.1. The Central Government: - 4.1.1. Entities covered under the State Budget, including Central Administration, agencies and services that are not administratively and financially autonomous, and agencies and services that are administratively and financially autonomous (Serviços e Fundos Autónomos – SFA). - 4.1.2. Other entities, including Incorporated State-owned enterprises (ISOE), or extra-budgetary funds (EBF) not part of the State Budget, but which are, under ESA95 and ESA95 Manual on Government Deficit and Debt rules, classified by the INE as part of the Central Government. - 4.2. Regional and Local Governments: - 4.2.1. Regional Governments of Madeira and Azores and Local Governments (Administrações Regionais and Locais). - 4.2.2. Regional and local government-owned enterprises or companies, foundations, cooperatives and other agencies and institutions which are, under ESA95 and ESA95 Manual on Government Deficit and Debt rules, classified by the INE as Local Government. - 4.3. Social Security Funds comprising all funds that are established in the general social security system. - Includes any new funds, or other special budgetary and extra budgetary programs or entities created during the Program period that are classified by the INE in the correspondent subsector; MoF will inform EC, ECB, IMF upon creation or re-classification. - The General Government, as measured for Program monitoring in 2012, shall not include entities nor operations (including pension funds) re-classified into the General Government during 2012, but shall include those reclassified in 2011. ### Data provision and deadlines (supporting material) - State Budget cash balances: provided by the MoF to EC, ECB, IMF within three weeks after month-end; includes detailed revenue and expenditure items in line with monthly MoF reports. - Cash balances of other parts of General Government (paragraph 4): provided by MoF within seven weeks after month-end; includes detailed revenue/expenditure items and PPP-related revenues/expenditures and guarantees for PPPs reclassified within General Government. - Data on domestic and external debt redemptions (securities), new domestic and external debt issuance (securities), change in domestic and foreign currency assets and liabilities of the Central Government at BdP and other financial institutions: provided by BdP within 40 days after month-end. - BdP will provide detailed monthly data on financing of the General Government (as defined in ESA95) within seven weeks after month-end. - SOE data (revenues, operating expenses, capital expenditure, remuneration of personnel, EBITDA, and number of staff): provided quarterly, within 7 weeks after quarter-end; aggregate data for SOEs within the perimeter and company-specific information for REFER, Estradas de Portugal, Metro de Lisboa, and Metro de Porto; data for Comboios de Portugal and Parpública (outside the perimeter) will also be provided. - Quarterly consolidated General Government cash-basis accounts: reported for internal EC/ECB/IMF monitoring 7 weeks after the reference period, starting with Q1 2012; publicly published starting with December 2011 data. - SOEs will be consolidated with general government accounts starting Q1 2012. - Larger municipalities (population of 100,000 voters or more) required to provide monthly reports; their cash balances included in monthly General Government cash balance. - Smaller municipalities (population under 100,000 voters) cash balances excluded until legal changes require monthly reports; MoF will provide monthly estimates of their cash balance to EC, ECB, IMF during transitory period. - Monthly data on cash balances of State Government, ISOEs, Regional and Local Government and Social Security Funds: provided to EC, ECB, IMF by MoF within seven weeks after month-end; information will include general government net acquisitions of financial assets for policy purposes and called guarantees where General Government entities make cash payments on behalf of non-General Government entities. - MoF will submit quarterly General Government accounts determined by INE in accordance with ESA 95 rules, showing main items of transition from cash balances to General Government balances in national accounts, with explanatory materials for potential deviations between annual cash and accrual targets. ### A. Floor on the Consolidated General Government Cash Balance (Performance Criterion) - Definition: Consolidated General Government cash balance (CGGCB) = sum of cash balances of entities covered by State Budget, ISOE, Regional and Local Governments, Social Security Funds, and other entities and EBFs as defined in paragraph 4. Privatization receipts excluded from cash receipts. - In 2012 and beyond, revenues from reclassification of pension funds into general government will not be accounted as cash revenues for CGGCB calculation. - Net acquisition of financial assets for policy purposes (including loans and equity participation) recorded as cash expenditures, except transactions related to banking sector support and restructuring strategy under the Program. - Called guarantees (excluding those related to banking sector support and restructuring strategy), where General Government entities make cash payments on behalf of non-General Government entities, recorded as cash expenditures. - 6.1. State Budget cash balance measured from above the line, based on budget revenues (recurrent + nonrecurrent revenue, including EU revenues, minus tax refunds) minus budget expenditures as published monthly by DGO of MoF; budget expenditures exclude amortization payments but include salaries, pensions, grants to Social Security Funds, medical care and social protection, operational and other expenditure, interest payments, cash payments for military equipment procurement, and EU expenses. - 6.2. Cash balance of Regional and Local Governments, Social Security Funds, ISOE and other entities/EBFs measured from above the line based on revenues minus expenditures as provided by DGO in monthly General Government budget execution report; entities preparing accrual-based financial statements must submit monthly cash flow statements in form/content specified by MoF. - 6.3. Adjustor: If IMF/EC/ECB staff judge (based on assessment during the third review) there are sufficient safeguards to prevent further accumulation of arrears and part of remaining funds (available after meeting 2011 deficit target) from envisaged 2011 banks pension fund transfer may be used to settle domestic arrears, the 2012 quarterly floors on CGGCB and accrual government balance objectives will be adjusted, if necessary, by the amount of arrears to be cleared. ### Other provisions related to central government and bank support - Central government expenditure monitored excludes payments related to bank support when carried out under Program’s banking sector and restructuring strategy; any financial operation by central government to support banks (including guarantees or liquidity) will be immediately reported to EC, ECB, IMF. ### B. Non-Accumulation of New Domestic Arrears by the General Government (Continuous Indicative Target) - Definitions: - Commitments: explicit or implicit agreements to make payment(s) for goods/services or other conditions (e.g., purchase order, contract); includes continuing commitments like salaries, utilities, entitlements. - Liabilities: present obligations from past events expected to result in outflow of resources. - Payables/creditors: subset of liabilities; exclude provisions and accrued liabilities for Program purposes. - Arrears: subset of payables/creditors. Domestic arrears = payables/creditors unpaid for 90 days or more beyond any specified due date (regardless of contractual grace period). If no due date, arrears = unpaid for 90 days or more after invoice or contract date. - Data on arrears provided within seven weeks after month-end. - Continuous indicative target: total arrears at end of any month must not be greater than corresponding total at end of previous month—based on same perimeter with respect to entities covered; includes arrears being accumulated by SOEs not included in General Government. - 12. Adjustor: Monthly change in stock of arrears will be adjusted for any stock adjustment related to arrears clearance strategy to monitor underlying flow of new arrears. ### C. Ceiling on the Overall Stock of General Government Debt (Performance Criterion) - Definition: Overall stock of General Government debt per Council Regulation (EC) No 479/2009 of 25 May 2009 on application of Protocol on the Excessive Deficit Procedure (annexed to Treaty). - For Program purposes, stock of General Government debt excludes: - (i) debt contracted for bank restructuring when carried out under Program’s banking sector support and restructuring strategy; - (ii) IGCP deposits; - (iii) (from end-September 2011) the ‘prepaid margin’ on all EFSF loans. - 14. Adjusters: - For 2012, ceiling will be adjusted upward (downward) by amount of any upward (downward) revision to stock at end-December 2011 general government debt of EUR183.33 billion. - From 2013 onwards, ceiling will be adjusted upward (downward) by amount of any upward (downward) reclassification of entities or operations that affects the stock at end-December of the previous year. - 15. Supporting material: Quarterly data on total stock of General Government debt provided by BdP no later than 90 days after quarter-end, as reported to ECB and Eurostat. Monthly estimates provided by BdP no later than seven weeks after month-end. ### D. Non-Accumulation of New External Debt Payments Arrears by the General Government (Continuous Performance Criterion) - Definition: Debt definition same as paragraph 12. External debt payment arrear = payment on debt to nonresidents contracted or guaranteed by General Government not made within seven days after falling due (taking into account contractual grace period). - Performance criterion applies continuously throughout Program period. - Supporting material: Any external debt payment arrears will be immediately reported by MoF. ### E. Bank Solvency Support Facility - €1 billion has been provided in cash and is made available in a separate dedicated account to be set up at the Bank of Portugal by end-June 2011. - An additional €3 billion has been deposited so far in 2012. - Future amounts for the bank support fund will be deposited into the dedicated account to the extent that there is a need for bank capital. ### F. Overall monitoring and reporting requirements - Performance monitored from data supplied to EC, ECB, IMF by MoF and BdP; authorities will transmit data revisions in a timely manner. *Source: Technical Memorandum of Understanding (TMU) provisions and reporting requirements as provided in the content unit.* ### 1. The Council granted financial assistance to Portugal (Council Implementing Decision ### The Council granted financial assistance to Portugal (Council Implementing Decision 2011/344/EU of 17 May 2011) — Third Update (15 March 2012) ### Programme status and overall assessment - Council granted financial assistance to Portugal (Council Implementing Decision 2011/344/EU of 17 May 2011) in support of the adjustment and reform programme as laid down in the Memorandum of Economic and Financial Policies (MEFP) and the Memorandum of Understanding on Specific Economic Policy Conditionality (MoU). - The attached update describes progress and additional policy steps towards meeting programme objectives. - Fiscal consolidation in 2011 was sizeable: the structural primary balance improved by some 3½ percent of GDP. - One-off revenues enabled meeting the end-year deficit target under the programme despite slippages during the year. - The continuous indicative target on the non-accumulation of new domestic arrears by general government was breached in October and November; overall stock of arrears declined in December. - All but one of the ten structural benchmarks under the programme have been met, some with minor delays. - The authorities will meet the benchmark on the regional finance law by December, allowing inclusion of changes from the strengthened EU fiscal policy framework in one round of amendments. - A financial arrangement with the Autonomous Region of Madeira was signed in January. ### Fiscal outcomes and targets - 2011 outcomes: - General government deficit fell below the target of EUR 10,068 million on an ESA95 basis according to available data in February 2012. - The deficit is estimated at around 4 per cent of GDP compared to a target of 5.9 per cent of GDP. - Achievement driven mainly by a large one-off transfer of the banks' pension funds to the public social security system of around EUR 6 billion (3½ per cent of GDP). - Without the one-off transfer, the fiscal gap is estimated to be 1½ percent of GDP. - Recapitalisation costs of the troubled bank BPN added 0.3 per cent of GDP to the fiscal gap on an ESA95 basis. - 2012 objectives: - The government will achieve a general government deficit of no more than EUR 7,645 million (4½ per cent of GDP) in 2012. [Q4-2012] - Operations related to banking sector support and restructuring strategy and lump-sum revenues from transfers of pension funds will not be considered for assessment of compliance with the programme target for the general government deficit in 2012. - If sufficient safeguards prevent further accumulation of arrears, part of the remaining funds from the 2011 banks pension transfer may be used to settle domestic arrears; accrual government balance objectives may be adjusted. ### Fiscal policy measures and requirements - Supplementary Budget: - The Government will adopt a Supplementary Budget by [Q1-2012]. - Main elements to be included: - i) additional expenditure on pensions due to the banks' pension funds transfer in 2012 of about EUR 520 million; - ii) strategy for the settlement of arrears in the health sector; - iii) budgetary costs of the Madeira programme; - iv) ways of addressing increased downside risks to economic activity by using additional interest savings, such as interest received from deposits, the EFSF margin removal from loans disbursed in May/June and lower interest on EFSF/EFSM loans disbursed afterwards and savings from the reprogramming of EU structural funds. - Covering pension transfer costs: - The banks' pension funds transfer created additional pension expenditure that will have a negative, though decreasing over time, impact on fiscal balances. - For 2012, measures to cover the additional expenditure will be included in the Supplementary Budget. - For later years, measures will be specified in the 2012 fiscal strategy document in compliance with the Stability and Growth Pact, with detailed medium-term fiscal projections and a list of contingency measures. [April 2012] - Commitment to rigorous implementation of the Budget Law throughout the year. ### Structural reforms and public sector measures - Public administration: - Progressing with a deep-seated reform to increase efficiency and cost-effectiveness through consolidating administrative units and rationalising managerial practices. - Revenue administration: - Merged tax, customs, and IT services to improve overall efficiency of revenue administration. - New structural benchmark: bring the Large Taxpayer Office to full operation by December. - SOE sector: - Plans to restructure the SOE sector are proceeding; objective of operational balance for the sector as a whole by end-2012. - Structural benchmark: develop a strategy to unwind the public holding company Parpública by April 2012. - Competitiveness and regulatory reform: - Agreement with social partners on broad labour market reform: introduce banks of hours, reduce the cost of dismissals, promote wage setting mechanisms responsive to economic conditions, and reduce the number of holidays to raise productivity. - Commit to reduce excess rents in the electricity sector and alleviate pressure on consumer prices. - Comprehensive revision to the Competition Law sent to Parliament (end-January structural benchmark). - Measures to reduce licensing and other legal requirements for over 90 percent of firms. - Revised the urban lease law to promote geographical mobility. - Made good progress with reforming the judicial system. - Structural benchmarks and timelines (examples in letter): - Eliminate the Power Guarantee investment incentive for plants existing or licensed prior to the decree law governing the incentive, and set the new reference tariffs for the cogeneration regime, both by April 2012. - Implement the key recommendations from the independent report on the main sectoral regulators by mid August 2012 (regulatory reform). - Submit to Parliament amendments to the Code of Civil Procedure and a bill to implement the judicial roadmap to improve court structure, both by September 2012. ### Financial sector and banking support - Policy to support financial system stability: - Continue to monitor pace and composition of deleveraging to be consistent with the macroeconomic framework. - Ensure sufficient credit to productive SMEs and exporting firms to support economic recovery. - Banks have strengthened capital positions without recourse to public funds to date. - Authorities stand ready to support banks’ efforts to meet additional capital needs by end-June 2012 through provision of public resources on appropriate terms. - Financial-sector structural benchmarks and measures: - Implement amendments to the corporate insolvency law by mid-June 2012. - Prepare a proposal on diversifying financing options for corporations by end-July 2012. ### Programme review, monitoring, and conditionality - The third quarterly review was carried out in February 2012; it assessed compliance with conditions to be met by end-February and the need and scope for additional policy steps. - Release of further instalments under the EFSM is conditional on positive conclusions of reviews assessing policy criteria in the Council Implementing Decision, MEFP, and MoU, as well as Council Recommendations under the Excessive Deficit Procedure. - Authorities commit to consult with the European Commission, the ECB, and the IMF on adoption of policies falling within the scope of the updated Memorandum, allowing sufficient time for review. - Staff of the EC, ECB, and IMF will monitor and assess implementation and effects of measures and may re-insert previous commitments if implementation falls short. - Authorities commit to provide all required information as soon as available and to make use of technical assistance where risks of significant delays exist. - Prior to release of instalments, authorities shall provide a compliance report on fulfilment of conditionality. ### Requests and forward-looking commitments - On the basis of policies in the letter and attachments, authorities request completion of the third review under the Economic Adjustment Programme. - The attached MoU and MEFP propose a prior action in the fiscal area and new structural benchmarks across fiscal, structural reform, financial sector, and judicial process areas (see timelines above). - Authorities remain confident that policies in current and previous MoUs and MEFPs are adequate to achieve programme objectives and stand ready to take additional measures as needed, consulting the EC, ECB, and IMF in advance of any necessary revisions. *Source: Memorandum of Understanding on Specific Economic Policy Conditionality, Third Update — 15 March 2012 (attachment to the letter on Council Implementing Decision 2011/344/EU of 17 May 2011).* ### 2012. Within the year, progress will be assessed against the (cumulative) quarterly ceilings for ### _cr1277 - 2012. Within the year, progress will be assessed against the (cumulative) quarterly ceilings for ### Overview of fiscal consolidation package - Measures worth 5.3 percent of GDP compared with the estimated outturn for 2011 (and above 6 percent of GDP when compared with a scenario of unchanged policies). - Overall, expenditure reduction accounts for two thirds of that fiscal effort and revenue increases for one third. - Progress within the year will be assessed against the (cumulative) quarterly ceilings for the consolidated general government cash balance in the MEFP, as defined in the TMU, without prejudice to full-year ESA-95 deficit targets. [Q1, Q2, Q3 and Q4-2012] ### Expenditure measures (specified savings and measures) - Ensure that the public sector wage bill decreases in gross terms in 2012 by at least EUR 3,000 million: - suspend the 13th and 14th monthly salary payments for workers with monthly salaries of EUR 1,100 or more; - suspend on average and in a progressive way the equivalent of one of those two salaries for workers with monthly salaries between EUR 600 and EUR 1,100; - apply similar measures to all SOEs classified inside and outside the perimeter of the government sector and any other public entity even if falling outside the perimeter of the government sector; - limit staff admissions to achieve annual decreases of 2 per cent (full-time equivalent) in 2012-2014 in the permanent staff of central, regional and local governments; - decrease the number of temporary positions in specific areas; binding numeric targets for staff reductions per main area to be defined by Q1-2012; - make room to reverse any possible slippage recorded in 2011; - suspend all promotions in 2012; - reduce the overall budgetary cost of health benefits schemes for government employees schemes (ADSE, ADM and SAD) on the basis of measures under 'Health care system'; - savings from public administration restructuring based on measures under 'Public administration'. - Reduce pension expenditure in gross terms in 2012 by at least EUR 1,140 million by: - suspending the 13th and 14th monthly payments for pensioners with monthly pension benefits of EUR 1100 or more; - suspending on average and in a progressive way the equivalent of one of those monthly benefits for those with monthly pension benefits between EUR 600 and EUR 1100; - freezing pensions of those receiving benefits below EUR 600 and marginally increasing the lowest pensions; - applying consolidated pension income when a pensioner receives more than one pension; - applying these rules to subventions or subsidies paid by the government that take the nature of pensions even if designed otherwise. - Control health sector costs to achieve savings worth some EUR 1000 million (detailed measures listed under 'Health-care system'). - Reduce costs with SOEs classified inside the perimeter of general government on an ESA95 basis with the aim of saving at least EUR 500 million by: - sustaining an average permanent reduction in operating costs by at least 15 per cent; - tightening compensation schemes and fringe benefits in line with the rest of the government sector; - rationalising investment plans for the medium term; the increase in EU co-financing rates allowed for countries under an Economic Adjustment Programme and a re-programming of EU funds in the context of the current NSRF will also contribute; - raising SOE revenues from market activities, including by raising tariffs and prices. - Reduce costs in education with the aim of saving EUR 380 million by: - rationalising the school network including creating school clusters; - lowering staff needs; - centralising procurement; - reducing and rationalising transfers to private schools in association agreements; - making more intensive use of EU funds. - Reduce capital expenditure by EUR 200 million by prioritising investment projects and intensifying use of EU structural funds; increased EU co-financing rates and NSRF re-programming will contribute. - Reduce cash social transfers (other than pensions) by at least EUR 180 million by tightening eligibility criteria and decreasing average benefits in selected cases. - Reduce transfers to local and regional authorities by at least EUR 175 million. - Improve central administration efficiency to yield annual savings worth at least EUR 130 million; detailed plans to be presented by Q1-2012 (budgetary impacts will spread beyond 2012). Government actions to include: - reduce number of services while maintaining quality; - create a single revenue administration and promote service sharing across general government; - reorganise provision of central administration services at local level and regularly assess value for money; - promote mobility of staff in central, regional and local administrations; - reduce transfers from the state to public bodies and other entities; - revise compensation schemes and fringe benefits in public bodies and entities that independently set remuneration schemes; - reduce subsidies to private producers of goods and services. - Reduce costs in other public bodies and entities and in transfers and subsidies to SOEs classified outside the perimeter of general government on an ESA95 basis by at least EUR 90 million by: - rationalising investment plans for the medium term; - sustaining an average permanent reduction in operating costs by at least 15 per cent; - tightening compensation schemes and fringe benefits; - increasing revenues from market activities, including by raising tariffs and prices charged; - these adjustments also to contain risks that the financial situation of some of these SOEs pose to government accounts in 2012 and beyond. ### Revenue measures (specified yields and reforms) - Introduce a standstill rule to all tax expenditure, blocking creation of new items and enlargement of existing items at central, regional or local level. - Raise VAT revenues with a yield of at least EUR 2,024 million in 2012 by increasing efficiency of the VAT structure; a set of categories of goods and services moved from reduced and intermediate VAT rates to higher ones, including additional impact of the increase in the VAT rate for natural gas and electricity to the standard rate introduced in October 2011. - Increase personal income taxes with a yield of at least EUR 265 million in 2012 (taking into account revenue losses from reductions of public wages and pension incomes) by: - capping and cutting substantially (by two thirds overall) tax allowances for health expenditure; - (i) eliminating deductibility of mortgage principal; (ii) eliminating interest income deductibility for new mortgages; (iii) phasing out deductibility of mortgage interest payments for owner-occupied housing and of rents; - harmonising personal income tax deductions applied to pensions and labour income; - capping the maximum deductible tax allowances according to tax bracket for most income brackets except the bottom two with lower caps applied to higher incomes and a zero cap for the two highest income brackets; - revising taxation of income in kind; - introducing a surcharge on the income of the top tax bracket and increasing the tax rate on capital gains; - collecting the one-time surcharge in the context of the personal income tax in 2011 in 2012. - Increase corporate tax revenues by at least EUR 330 million in 2012 by: - abolishing all reduced corporate income tax rates; - limiting deductions of losses in previous years to 75 per cent of the taxpayer's taxable profit; - curbing tax benefits; - increasing rates and the basis of the state surcharge on corporate profits. - Increase excise taxes to raise at least EUR 200 million in 2012 by: - raising taxes on car sales, tobacco and alcohol products; - introducing electricity excise taxes in compliance with EU Directive 2003/96; - indexing excise taxes to core inflation. - Change property taxation to raise revenue by at least EUR 50 million by substantially reducing temporary exemptions for owner-occupied dwellings acquired as of 2012 and by increasing rates. - Increase efforts to fight tax evasion, fraud and informality to raise revenue by at least EUR 175 million for various taxes by: - increasing means available for audits; - increasing penalties for the most serious tax crimes; - introducing electronically-transmitted invoices. ### Fiscal policy target for 2013 - The government will achieve a general government deficit of 3 percent of GDP or below. [Q4-2013] - Throughout the year, the government will rigorously implement the Budget Law for 2013. *Source: _cr1277 - 2012. Within the year, progress will be assessed against the (cumulative) quarterly ceilings for* ### 2013. Within the year, progress will be assessed against the (cumulative) quarterly ceilings for ### _cr1277 - 2013. Within the year, progress will be assessed against the (cumulative) quarterly ceilings for ### Fiscal policy and consolidation (2013) - Assessment framework: - Progress within the year will be assessed against the (cumulative) quarterly ceilings for the consolidated general government cash balance in the Memorandum of Economic and Financial Policies (MEFP), as defined in the Technical Memorandum of Understanding (TMU), without prejudice to full-year ESA-95 deficit targets. [Q1, Q2, Q3 and Q4-2013] - Measures to be detailed and carried out with the 2013 Budget Law [Q4-2012]: - Expenditure consolidation measures introduced in the 2012 Budget Law aiming to reduce expenditure by: - central administration functioning: EUR 500 million. Detailed plans will be presented and assessed [Q3-2012]; - wage bill: decrease of 2 per cent (full-time equivalent) in the permanent staff of central, regional and local governments and decrease the number of temporary positions in specific areas of public administration; - health sector: EUR 375 million; - capital expenditure: EUR 350 million; - transfers to local and regional authorities: EUR 175 million; - education and school network rationalisation: EUR 175 million; - costs in other public bodies and entities, and in SOEs: EUR 175 million; - health benefits schemes for government employees: EUR 100 million; - freeze wages and pensions except for the lowest pensions. - Extend use of means testing and better target social support to achieve a reduction in social benefits expenditure of at least EUR 250 million. Social transfers will also decline following implementation of unemployment insurance measures listed under 'Labour market and education'. - Revenue measures introduced in the 2012 Budget Law leading to extra revenue: - personal income tax benefits and tax deductions: EUR 175 million; - broaden corporate tax bases and reduce tax benefits and tax deductions: EUR 150 million; - excise taxes: EUR 150 million. - Property taxation: - Update the notional property value of all real estate assets for tax purposes to raise revenue by at least EUR 250 million in 2013. Transfers from the central to local governments will be reviewed to ensure that the additional revenues are fully used for fiscal consolidation. ### Fiscal policy in 2014 - Policy aims and assessment: - The government will aim at achieving a general government deficit in 2014 in line with the Medium-Term Fiscal Strategy defined in August 2011. The necessary measures will be defined in the 2014 Budget Law. [Q4-2013] - Within the year, progress will be assessed against the (cumulative) quarterly ceilings for the consolidated general government cash balance in the MEFP, as defined in the TMU, without prejudice to full-year ESA-95 deficit targets. [Q1 and Q2-2014] - With the 2014 Budget Law: - Further deepen measures introduced in 2012 and 2013 with a view in particular to broadening tax bases and moderating primary expenditure to achieve a declining ratio of government expenditure over GDP. ### Financial sector regulation and supervision — objectives - Preserve financial sector stability; maintain liquidity and support a balanced and orderly deleveraging in the banking sector; ensure adequate financing and working capital for the productive sectors; strengthen banking regulation and supervision; bring closure to the Banco Português de Negócios case and streamline state-owned Caixa Geral de Depósitos; strengthen the bank resolution framework and reinforce the Deposit Guarantee Fund and the Guarantee Fund for Mutual Agricultural Credit Institutions; reinforce the corporate and household insolvency frameworks; ensure that the pension fund transfer from the banking sector into the social security system is done under conditions that are actuarially fair to all partners and the state. ### Maintaining liquidity in the banking sector - Encourage banks to strengthen collateral buffers and take full advantage of broadening eligible collateral for Eurosystem refinancing. - The Banco de Portugal (BdP), in close cooperation with the ECB, will monitor liquidity and stands ready to take appropriate measures to maintain sufficient system liquidity. - Monitor issuance of government guaranteed bank bonds, which has been authorised up to EUR 35 billion in line with EU State aid rules. [Ongoing] ### Deleveraging in the banking sector - Medium-run objective: - Banking system should eliminate funding imbalances; monitor banks' implementation of funding plans aiming at an indicative loan-to-deposit ratio of about 120% in 2014. - Constraints and safeguards: - Pace and composition of deleveraging should not jeopardise credit provision to finance productive investment and working capital, especially for SMEs. - Fiscal adjustment and reduction in public sector financing are crucial for reconciling objectives. - Supervisory actions: - BdP will take measures to discourage ever-greening of doubtful loans to facilitate effective adjustment of bank balance sheets respecting EU state aid rules, without burdening or posing risks to public resources. - The Ministry of Finance, the BdP, and other stakeholders will prepare a proposal for encouraging diversification of financing alternatives to the corporate sector by end-July. (Structural benchmark in the Memorandum of Economic and Financial Policies.) - Banks' funding and capital plans and broader credit developments will be monitored closely. [Ongoing] ### Pension fund transfer and recapitalisation - Ensure proceeds associated with the pension transfer will be used respecting EU state aid rules. [Ongoing] - Additional capital requirements from the transfer will be sought from private sources, as in other recapitalisation efforts. - If necessary, help will be offered to banks to cover loss and impact on capital by using part of the transfer itself in the context of the larger recapitalisation process and acquire common equity in banks under the conditions set in the recapitalisation framework. - Authorities will carry out, under strict eligibility criteria, a credit assignment of up to EUR 3 billion from the banks to the general government, while maintaining the contractual obligations of the debtor. ### Capital buffers and capital planning - BdP is following closely plans banks presented to reach a core Tier 1 capital ratio of 10 percent at the latest by Q4-2012. - The EBA capital exercise on 8 December 2012, including a new temporary buffer for sovereign exposures, requires substantial additional bank capital. - Additional capital needs will arise from the partial transfer of banks' pension plans and from the special on-site inspections program (SIP). - BdP requested banks to present plans by end-February 2012 on how they intend to meet all capital needs and the applicable deadlines, including possible need for public capital. - For pension plan transfers and the SIP, the deadline for providing capital is the same as for the EBA exercise, namely by Q2-2012. ### Public support framework and conditions - Amended law on extending temporary public support to viable banks entered into force on 12 February 2012; accompanying Ministerial Order ('Portaria') is being finalised after consultation with stakeholders. - Rules for public capital provision: - If a beneficiary bank ceases to comply with steps and deadlines agreed under the recapitalisation plan or fails to achieve Core Tier 1 requirements within a legal timeframe, the government will start to exercise full ownership rights. - Price for shares issued as part of public support will be in line with EU guidelines, and will include a sizeable discount to provide a large safety margin for the taxpayer. - Banks will be required to demonstrate that they have tried everything to secure private capital before receiving public funds. - Include increased incentives for early repayment; repurchase price incorporates an accrued remuneration plus a share of any increase in value. - BdP will closely monitor and supervise banks receiving public support and will provide quarterly status reports to the Minister of Finance. [Ongoing] ### Caixa Geral de Depósitos (CGD) - Streamline the state-owned CGD group to increase the capital base of its banking arm as needed. - Sale of the insurance arm is expected to take place in 2012 directly to a final buyer and to contribute to meeting that year’s additional capital needs, while starting to sell non-strategic participations and reviewing CGD's overall portfolio. - If needs cannot be met from internal group sources by end-June 2012, CGD will be provided with government capital support from cash buffers outside of the BSSF subject to EU state aid rules. ### Monitoring of bank solvency and stress testing - In the context of the stress test exercise planned for the fifth review, BdP will ensure banks incorporate the available results of the SIP. - The exercise will be performed quarterly with a three-year horizon and a 6% Core Tier 1 threshold. [Ongoing] - BdP has prepared a scenario agreed with the EC/ECB/IMF; BdP will continue to monitor quarterly banks’ potential capital needs with a forward-looking approach under stress conditions. ### Banking regulation and supervisory capacity - BdP to strengthen supervisory capacity by widening specialist staff and establishing a new division tasked with maintenance and development of supervisory methodologies and tools, including dissemination of SIP experiences. [Ongoing] - Remain committed to close coordination with home and host country supervisors, both within and outside the EU. [Ongoing] ### Banco Português de Negócios (BPN) and SPVs - Authorities asked to resolve the case taking into account the EC decision, including legal certainty and implications for the Portuguese taxpayer and the economy. [Ongoing] - Once resolved, CGD’s state guaranteed claims on BPN and all related SPVs will be settled gradually in cash. Any recoveries on assets held by the state-owned SPVs will be used to promptly repay CGD. [Ongoing] - Authorities will develop and implement a strategy for recovery of distressed assets and management of the SPVs to maximise returns for the taxpayer within a reasonable timeframe [end-March]. - Authorities will commission an audit, while complying with procurement laws, to confirm the prospective recoverable value of distressed assets held by the SPVs by the time of the [fourth review], in the context of the larger recapitalisation process. ### Bank resolution framework - The early intervention, resolution and deposit insurance framework has been strengthened. Legislative amendments have been passed and are effective as of mid-February. * _cr1277 - 2013._ ### 2012. The authorities are asked to prepare the implementing measures with a view to rendering ### _cr1277 - 2012. The authorities are asked to prepare the implementing measures with a view to rendering ### Resolution framework - Set up the Resolution Fund with a view to ensuring that it is fully operational by July 2012. - Adopt Recovery and Resolution Plans regulations by mid-2012 taking into account, to the extent possible in view of the deadline, the EBA recommendations and templates. - Adopt rules applicable to setting-up and operation of bridge banks in line with EU competitions rules by end September 2012. - The legislator will closely follow the process of adoption of the EU Directive on resolution and revise the national resolution framework as soon as the Directive enters into force. [Ongoing] ### Corporate and household debt restructuring framework - Corporate insolvency law amendments to support better early rescue of viable firms were approved by the Council of Ministers in December 2011 and are being discussed in Parliament; these amendments will become effective, in principle, by mid-June 2012. - Implement an action plan to raise public awareness of the restructuring tools. [Ongoing] ### Monitoring of corporate and household indebtedness - Continue to enhance monitoring of high indebtedness of corporate and household sectors; further improve quarterly monitoring report concerning its information content. - A report assessing the overall consistency, effectiveness, and the impact of existing support mechanisms to SMEs will be revised by Q2- 2012; the report will discuss policy actions aimed at improving and implementing support mechanisms to facilitate access to credit, encourage internationalisation, and improve competitiveness of SMEs in line with EU competition rules. - Finalise the amendments to the conciliation framework mediated by IAPMEI to facilitate extrajudicial corporate debt restructurings for viable SMEs. ### Fiscal-structural measures — Objectives - Improve efficiency of public administration by eliminating redundancies, simplifying procedures and reorganising services. - Regulate creation and functioning of all public entities (e.g. enterprises, Public-Private Partnerships, foundations, associations). - Re-focus activities to core public policy objectives and enhance cost efficiency and fiscal sustainability. - Streamline budgetary process through the newly approved legal framework, adapting budgetary and legal frameworks of finance; strengthen risk management, accountability, reporting and monitoring of all parts of general government. - Government action will build on recommendations from IMF/EU technical assistance missions of July 2011. ### Public Financial Management framework — Reporting and Monitoring - Publish quarterly cash balance targets for the general government as defined in national accounts and corrective measures in case of deviation from targets. [Q1-2012] - Publish a comprehensive report on fiscal risks each year as part of the budget; the 2012 Budget fiscal risks report will be enhanced and published by April-2012. - Complete annual report on tax expenditures by Q1-2012 in cooperation with EC and IMF staff; the report will be published each year as part of the budget and will cover central, regional and local administrations. - Submit a proposal to reduce budgetary fragmentation by [Q2-2012]. ### Arrears - Implement changes to budget execution rules and procedures necessary to align them with the new law on commitments control; implement law across all general government entities including regional and local administration and SOE hospitals. Inspecção Geral de Finanças (IGF) will carry out inspections to verify compliance. [Q2-2012] - Significantly reduce the stock of domestic arrears by the end of the program period; approve a revised strategy document by the Council of Ministers before the supplementary budget is submitted to Parliament. IGF will validate claims; payments will only be made for validated arrears and where originating entity has changed its commitment system in accordance with the new law. ### Budgetary framework - Publish a fiscal strategy document for the general government annually in April, in compliance with the Stability and Growth Pact; specify 4-year medium-term economic and fiscal forecasts and 4-year costs of new policy decisions. - Ensure full implementation of the Budgetary Framework Law and adopt necessary legal changes detailing the medium-term budgetary framework characteristics. [Q2-2012] - The Fiscal Council has been established and will be operational by [Q1-2012]. ### Regional and local budgetary frameworks - Apply central government budgetary framework measures at regional and local levels with adequate monitoring, fiscal reporting, and commitment control. [Ongoing] - Draft proposal to revise the regional finance law and the local finance law to be discussed with EC/IMF/ECB by [Q2-2012] and submitted to Parliament by [Q4-2012]. Revisions will: - Fully adapt local and regional frameworks to the revised Budgetary Framework Law, including (i) inclusion of all relevant public entities in the perimeter, (ii) multi-annual framework with expenditure, budget balance and indebtedness rules, and programme budgeting, and (iii) interaction with the Fiscal Council. - Provide that (i) the Fiscal Council reviews local and regional governments' own revenue projections and multi-annual fiscal plans, (ii) a contingency reserve is included under the overall current expenditure envelope, and (iii) the revised legal and institutional PPP framework is applied. - Strengthen fiscal accountability via tighter financial requirements for regional and local SOEs and public bodies; revise transfers regime between State and regions/local authorities; strengthen State supervisory power on budget execution; apply tighter debt ceilings combined with a multi-tiered monitoring system. - Limit scope for lower tax rates in Autonomous Regions vis-à-vis mainland rates and ensure additional revenues from increasing regional rates are used as a priority for fiscal consolidation. - Government's financial arrangement with the Autonomous Region of Madeira (RAM) will be implemented; progress will be presented quarterly with a first report due in [April-2012]. ### Public-Private Partnerships (PPPs) - An assessment of 36 PPPs and 24 concessions under central government responsibility projects rapidly increasing spending pressures; government is reducing pressures by increasing revenues and seeking renegotiation of contracts. - Sign a service contract to recruit a top tier international accounting firm to review PPP contracts of the central administration in consultation with INE and the Ministry of Finance. [March-2012]. The study will be completed three months after contract award and will: - Identify and where practicable quantify major contingent liabilities and any related amounts payable by government. - Assess probability of any payments by government and quantify such amounts. - Assess costs and benefits of renegotiating PPP or concession contracts to reduce government financial obligations. - Be the basis for a strategic plan specifying how to deal with existing PPPs and providing a framework for future engagements; until such a framework is in place the government will not engage in any new PPP. - Put in place a strengthened legal and institutional framework within the Ministry of Finance for assessing fiscal risks ex-ante of engaging into PPPs, concessions and other public investments; inform the Court of Auditors of this ex-ante risk assessment. [Q1-2012]. Ensure same commitments apply for regional PPPs and that local governments do not enter into any PPP contracts. - Enhance the annual PPP and concessions report with a comprehensive assessment of fiscal risks, provide sectoral information and analysis, and include analysis of credit flows channelled to PPPs by industry and an impact assessment on credit allocation and crowding out effects in liaison with the Bank of Portugal. [Q3-2012] ### State-owned enterprises (SOEs) - Aim to restructure SOEs, reduce indebtedness, and ensure improved conditions for market financing; focus on attaining 2012 budget cost savings, notably to reduce operational costs across the sector by 15 percent with respect to 2009. - SOEs with commercial activity will reach operational balance by end of 2012 through substantial operational cost reductions and revenue increases; implement comprehensive SOEs strategy with numerical targets on cost reductions, including measures to realign wages or reduce employment, and additional measures as appropriate. [Q4-2012]. A progress report will be prepared by [Q2-2012]. - Assess SOEs’ financial prospects, potential government exposure, and scope for privatisation; prepare restructuring plans for SOEs with significant risks of not achieving operational balance. Most subsidiaries and shareholdings in non-core activities will be eliminated by 2014 on the basis of concrete proposals. [Q2-2012] - Limit excessive increase in overall borrowing requirements of the SOE sector; develop a strategy for managing SOE heavy debt load, including sale of assets in non-core areas, in consultation with EC, ECB and IMF staff. [Q2-2012] - Prepare a model to strengthen governance of SOEs in accordance with international best practices; give the Ministry of Finance a decisive role in financial matters, enhance central monitoring powers, define timing and content of financial and operational reporting, and prohibit SOEs within general government from incurring new debt with the private sector. Submit a draft law to regulate creation and governance of SOEs. [Q1-2012]. No additional SOEs will be created until this law is adopted. - Equivalent measures on operational results, debt, restructuring and governance will be taken at local and regional levels; progress will be reported in four annual SOEs reports at central, local and the two regional levels and will include a fiscal risk analysis in preparation for the annual budget. [Q2-2012] ### Privatisation - Implement privatisation programme under new framework law for privatisation targeting front-loaded proceeds of about EUR 5 billion through the end of the program. - Sale of energy company (EDP) and energy network company (REN) are being concluded; sale of GALP and the small remaining stake in REN delayed until market conditions improve. - Launch privatisation or concession of CP Carga in the second quarter of 2012. - Launch privatisation process for TAP and Aeroportos de Portugal (ANA) in the second and early third quarters with a view to completing transactions in 2012. - Launch privatisation of Correios de Portugal (CTT) to complete sale in 2013 once regulatory changes take full effect. - Consider partial sale of a public television channel (RTP) and concessions for transport operators in Lisbon and Porto upon completion of restructuring of public transport firms. - Direct sale of CGD's insurance arm (Caixa Seguros) to a final buyer is expected to take place in 2012. - Prepare a strategy to introduce private capital and management in Águas de Portugal (AdP) including competitive and regulatory environment and organisational consequences. [Q4-2012] - Prepare a strategy for Parpública given privatisation effects on its income. [April-2012]. Ensure Parpública has sufficient income-generating assets to manage its debt and financing needs; process of winding down Parpública will begin in 2013. - Prepare an inventory of assets, including real estate, owned by municipalities and regional governments to identify scope for further privatisation. [Q2-2012] ### Revenue administration - Conclude implementation of merger of tax administration, customs administration and IT service (DGITA) into Autoridade Tributária e Aduaneira (AT) by Q4-2012 and study costs and benefits of including social security revenue collection units in the new entity. [Q1-2012]. Proceed with broader merger if assessment is favourable. [Q4-2013] - In 2012 focus on merging central and support functions and reducing number of branches; deepen reform in 2013 towards a business function-type structure. - Review task force of tax judges experience for cases above EUR 1 million and assess need to establish special chambers within tax tribunals. [mid-November 2012] - Reduce the number of municipal offices by at least 20 per cent per year in 2012 and 2013. [Q4-2012 and Q4-2013] - Increase resources devoted to auditing in tax administration to at least 30 per cent of total staff by Q4-2012, mostly through reallocations within tax administration and other parts of public administration. - Analyze impact of VAT issues on backlog enforcement cases and assess options to address such cases. [end-April 2012] - Publish quarterly reports on recovery rates, duration and costs of tax cases starting from Q2-2012 within four months after the end of the relevant quarter. - Address bottlenecks in tax appeal system by clearing cases worth above EUR 1 million. [Q4-2012] - Draft a proposal by [Q2-2012] to strengthen auditing and enforcement powers of central tax administration to exercise control over whole territory and reserve to central administration power to issue interpretative rulings on taxes with national scope; submit a draft law to Parliament by [Q4-2012]. - Finalise assessment of net financial impact of proposed incentive scheme granting up to 5 per cent rebate, subject to a limit per taxpayer, on VAT paid through electronically transmitted invoices in selected sectors. [Q1-2012] Consult with EC and IMF before implementing the scheme. - Develop a modern tax compliance management framework and implement a full-fledged Large Taxpayer Office (LTO) by [Q4-2012]. ### Public administration - Implement measures to rationalise public administration and its perimeter; at central level measures set out in the July PREMAC plan are being implemented and go significantly beyond initial plans. - At local level, following a “Green Paper for Local Administration Reform” in October, a draft law was submitted to Parliament with the objective of implementing a reorganisation of local government by end-June. *Content derived from the provided IMF text.* ### 2012. The government will take the following measures to increase the ### 2012. The government will take the following measures to increase the efficiency and cost-effectiveness of the public administration: ### Central, regional and local administration - Reduce management positions and administrative units in the central administration according to the PREMAC report of 15 September 2011 by 27 per cent and 40 per cent, respectively. Following the approval and publication of most organic laws of the ministries, the legislation of the remaining entities will be finalised. [April 2012] - Implement a second phase of the public administration restructuring programme (PREMAC) that implies the definition of the internal organisation and the roster of each entity. [Q2-2012] - Municipalities and regions: - Each municipality will present its plan to attain the target of reducing their management positions and administrative units by at least 15 per cent by the end of 2012. [Q2-2012] - The government will promote initiatives so that each region will present its plan to attain the same target. [Q1-2012] - Detailed cost/benefit analysis of all public and quasi-public entities: - Based on the analysis on foundations, using results of the compulsory census and recommendations, the responsible administration will decide whether to maintain, reduce or extinguish them. [Q2-2012] Decision implementation: [Q3-2012] - Apply the compulsory census and subsequent analysis to associations and extend later to other public and quasi-public entities across all levels of government. [Q4-2012] - Regulate by law the creation and functioning of foundations, associations, and similar bodies by central, regional and local administrations; facilitate closure where warranted; define monitoring and reporting mechanisms to evaluate performance. [Q2-2012] - Regulate, on a case-by-case basis, classification as general government revenues of all own revenues of these funds that arise directly or indirectly from the use of sovereign powers (e.g. court fees, fines, fees for licenses or permits, audit fees charged by the Court of Auditors). Promote same objective at regional level. [Q2-2012] - Reorganise local government administration: - There are currently 308 municipalities and 4,259 parishes. - By July 2012, develop a consolidation plan to reorganise and significantly reduce the number of such entities. - Implement plans based on agreement with EC and IMF staff; changes to come into effect by the beginning of the next local election cycle. - Study duplication and inefficiencies between central, local and locally-based central administration services and reform framework to eliminate identified inefficiencies. Study: [Q3-2012]; Reform: [Q4-2012] ### Shared services - Develop shared services in central administration and assess scope for further integration: - Complete implementation of shared services strategy in financial resources (GeRFIP). [Q4-2012] - Fully implement shared services strategy in human resources (GeRHup) in Ministry of Finance’s entities. [Q4-2012]; Tax Authority exception scheduled for end-January 2013; other Ministries to follow in 2013. - Rationalise IT resources by implementing shared services and reducing the number of IT entities in line with the “Overall Strategic plan to rationalise and reduce costs on ICT in Public Administration”. [Q4-2012] - Reduce number of local branches of line ministries; merge services in citizens’ shops covering greater areas and further develop e-administration. Target: [Q4-2013] ### Human resources - 2012 budget promotes flexibility, adaptability and mobility of human resources, including training and requalification; reinforce geographic mobility. [Q2-2012] - Limit staff admissions to achieve annual decreases in 2012-2014: - 2 per cent per year (in full-time equivalents) in central administration staff. - 2 per cent per year (in full-time equivalents) in local and regional administrations. - Government to ensure implementation at local level and promote regional plans. [Ongoing] - Prepare comprehensive review of wage scales in the public sector, including entities outside general government, to identify unwarranted differences in remuneration between public and private sector for similar qualifications. [Q4-2012] ### Health care system — Objectives and financing - Objectives: - Improve efficiency and effectiveness in the health care system; induce more rational use of services and control of expenditures. - Reduce overall public spending on pharmaceuticals to 1.25 percent of GDP by end 2012 and to about 1 per cent of GDP in 2013. - Generate additional savings in hospital operating costs and devise a strategy to eliminate arrears. - Financing measures: - Revision of NHS moderating fees (taxas moderadoras) to yield additional revenues of EUR 150 million in 2012 and an additional 50 million in 2013. [Q4-2012] - Accelerate plans to achieve a self-sustainable model for health-benefits schemes (ADSE, ADM, SAD): - Reduce overall budgetary cost of existing schemes by 30 per cent in 2012 and by further 20 per cent in 2013 at all levels of general government. - System to become self-financed by 2016. - Reduce costs for public budget by lowering employer’s contribution rate and adjusting scope of benefits. Adjustment path to be assessed in the fifth review. - Produce a health sector strategic plan consistent with the Medium-Term Fiscal Strategy. [Q1-2012] ### Pharmaceuticals — pricing, prescription, procurement, and retailers - Pricing and reimbursement: - Enact legislation automatically reducing prices of medicines when patents expire to 50 per cent of previous price. [Q1-2012] - Complete transfer of pricing responsibility to Ministry of Health (e.g., Infarmed). [Q1-2012] - Annual revision of prices of medicines and countries of reference; first price revision to be published in [April 2012]. - Monitor monthly pharmaceutical expenditures to ensure public pharmaceutical expenditure does not exceed 1.25 per cent of GDP in 2012 and 1 per cent of GDP in 2013. [Ongoing] - Prescription and monitoring: - Improve monitoring and assessment of doctors' prescription behaviour (volume and value) with regular feedback (e.g. quarterly). [Ongoing] - Devise and enforce a system of sanctions and penalties complementary to assessment framework. [Q1-2012] - Parliament approved legislation making INN prescription compulsory for physicians; enactment expected by [Q1-2012]. - Publish prescription guidelines and integrate them in electronic prescription system. [Ongoing] - Produce report assessing effectiveness of legislation to remove entry barriers for generics, in particular reducing administrative/legal hurdles for generics. [Q1-2013] - Target: increase share of generic medicines to at least 30 per cent of all outpatient prescription (in volume) in 2012 and substantial further increases in 2013. [Ongoing] - Pharmaceutical retailers and wholesalers: - Implement new legislation regulating pharmacies. [Q1-2012] - Produce intermediate assessment of savings from revision of profit margins for wholesalers and pharmacies. [Q3-2012] - If revision does not reduce distribution profits by at least EUR 50 million, introduce average rebate pay-back reducing mark-up by at least 2 percentage points on pharmacies and 4 percentage points on wholesalers; rebate collected monthly through Centro de Conferência de Facturas, preserving profitability of small pharmacies in remote areas. [Q3-2013] - Reinforce centralised acquisition for NHS entities; publish detailed action plan by November 2012. - Centralised purchasing and procurement: - INFARMED to continue implementing uniform coding system and common registry for medical supplies. [Ongoing] - Increase competition among private providers and reduce by an additional 10 percent the overall spending (including fees) of the NHS with private providers delivering diagnostic and therapeutic services. Regularly revise (at least every two years) fees paid to private providers. [Q4-2012] - Implement centralised purchasing of medical goods through Central Purchasing Authority (SPMS) using uniform coding system. [Ongoing] - Assess compliance with European competition rules for private healthcare sector and guarantee increasing competition among private providers. [Q1-2012] ### Primary care services - Reorganise provision to reduce unnecessary specialist and emergency visits and improve care coordination. [Ongoing] - Increase number of USF units contracting with ARSs using mix of salary and performance payments; extend performance assessment to UCSPs. - Set up mechanism to guarantee family doctors' presence where needed to ensure more even distribution. - Move human resources from hospitals to primary care; reconsider roles of nurses and other specialties. - Increase maximum number of patients per primary care/family doctor by at least 20 per cent for health centres and by 10 per cent for the USF. ### Hospital services - Implement binding strategy and timetable to clear arrears in health sector and introduce standardised control procedures. [Q1-2012] - Hospital SOEs to adopt accounting standards in line with private companies and other SOEs. [Q4-2012] - Achieve reduction of at least EUR 200 million in operational costs of hospitals in 2012 through management staff reduction, concentration and rationalisation. [Q1-2012] - Continue publication of clinical guidelines and audit their implementation. [Ongoing] - Improve selection criteria and transparency for hospital boards; require board members by law to be persons of recognised standing. [Q2-2012] - Produce regular annual benchmarking reports comparing hospital performance; first report by end 2012. [Q4-2012] - Ensure full interoperability of IT systems in hospitals so ACSS can gather real time information and produce monthly reports to Ministry of Health and Ministry of Finance. [Q1-2012] - Reorganise and rationalise hospital network via specialisation, concentration and downsizing; achieve additional cuts in operating costs by at least 5 percent in 2013 while improving quality. Detailed action plan published by 30 November 2012; implementation finalised by end-2013. - Overall, from 2011 to 2013, hospital operational costs must be reduced by at least 15 per cent compared to 2010 level. [Q4-2012] - Reinforce centralised monitoring of PPP contracts by the Treasury with ACSS. [Q2-2012] - Annually update inventory of all health staff and prepare regular annual reports on allocation plans up to 2014. [Q2-2012] - Update legal framework on working time of healthcare staff; reduce overtime compensation by 20% in 2012 and another 20% in 2013. [Q4-2012] ### Regional health authorities and cross services - Improve monitoring, internal control and fiscal risks management systems of Administrações Regionais de Saúde. [Q4-2012] - Finalise patient electronic medical records system and ensure access to all relevant facilities. [Q2-2012] - Reduce costs for patient transportation by one third compared to 2010. [Q4-2012] ### Labour market — Objectives and unemployment benefits - Objectives: - Revise unemployment insurance to reduce long-term unemployment risk while strengthening safety nets. - Reform employment protection legislation to tackle labour market segmentation and foster job creation. - Ease working time arrangements; promote labour cost developments consistent with job creation. - Ensure good practices and resources for Active Labour Market Policies (ALMPs). - Unemployment benefits: - Following DL 267/2011 and DL 268/2011 (approved by Council of Ministers of 19-01-2012), prepare by Q4-2012 an analysis on benefit dependency and long-term unemployment to assess whether further measures are needed by Q1-2013. ### Employment protection, severance, and wages - Employment protection reforms aimed at tackling segmentation, fostering job creation. [Ongoing] - Severance payments: - Law n. 53/2011 reduces severance payments to 20 days per year of work for both open-ended and fixed-term contracts, introduces cap of 12 months of pay, eliminates 3 months of pay irrespective of tenure for permanent contracts, and makes partial financing via a compensation fund compulsory. - Government to further reduce severance payments and implement compensation fund; until fund operational, employers remain responsible for total severance payments. - By Q1-2012 prepare proposal (in consultation with social partners) aiming at: - aligning severance payments to EU average of 8-12 days; - implementing compensation fund with notional individual accounts; submit draft legislation no later than Q3-2012. - Prepare report on effects of dismissal rule changes by Q2-2013. - Wage setting and competitiveness: - Any increase in minimum wage during programme period only if justified by economic and labour market developments and agreed in programme review. [Ongoing] - Ensure wage moderation via discretion not to extend collective agreements until clear criteria defined. - Define clear criteria for extension of collective agreements; collective agreement subscribed by employers representing less than 50 per cent of workers in a sector cannot be extended. Draft legislation defining criteria submitted to Parliament by Q2-2012, entry into force by Q1-2013. - Prepare independent review by Q2-2012 on reinvigorating tripartite concertation on wages and on shortening the survival (sobrevigência) of expired contracts. ### Wage decentralisation and ALMPs - Promote wage adjustments in line with firm-level productivity; assess effects of decentralisation and lower firm size threshold to 150 workers for works councils by Q1-2013; prepare action plan if needed by Q2-2013. - Active labour market policies: - Present by Q2-2012 an assessment of effectiveness of activation policies and ALMPs and an action plan for improvements, including role of Public Employment Services. ### Education and training - Continue actions to tackle low education attainment and early school leaving and to improve secondary and vocational education quality. - Set up an analysis, monitoring, assessment and reporting system; operational management tool by Q3-2012. - Present action plan to improve quality of secondary education services via trust agreements, formula-based funding, and reinforced General Inspectorate. [Q1-2012] - Present action plan to ensure quality, attractiveness and labour market relevance of vocational education and training and enhance career guidance. [Q1-2012] ### Goods and services markets — Objectives - Reduce entry barriers in network industries and sheltered sectors (services, regulated professions) to increase competition, reduce rents, lower input prices, raise productivity, and improve product/service quality. ### Energy markets — Liberalisation and sustainability - Transpose Third EU Energy Package and submit law on regulator penalty system; adopt decree-laws transposing electricity and gas directives by Q2-2012. - Accelerate establishment of Iberian gas market (MIBGAS) through regulatory convergence and tariff harmonisation; regulators to present proposals following 30 September 2011 roadmap [Q3-2012]; apply harmonised allocation and congestion management mechanism to interconnection capacity with Spain [Q1-2013]. - Clarify legal framework for logistics operator and cost-benefit analysis for converging two platforms for electricity and natural gas. [Q4-2012] - Fulfil obligations under Regulation 994/2010 by submitting Risk Assessment report to EC. [Q1-2012]; prepare report on harmonised mechanism for capacity allocation and congestion management with Spain. [Q1-2013] - Eliminate tariff debt (défice tarifário) by 2020 through measures on compensation schemes; appoint independent negotiator by Q1-2012. ### Policy costs and support schemes - Limit policy costs embedded in CMECs by negotiating revision of rate of return to align with cost of capital plus, if warranted, a risk premium. Progress to be discussed in the fourth review. - Co-generation: - Revise remuneration scheme to improve efficiency and create transitional regime with declining tariffs. Publish Executive Order defining new reference tariff and update formula by [April 2012]. - Measures estimated to reduce policy costs implicit in electricity prices starting at EUR 25 million per year in 2012, rising to EUR 80 million in 2020. Ensure audits to prevent undeserving support. [Q2-2012, Q2-2013] - Renewables: - For new contracts, revise downward feed-in tariffs and introduce digressive tariffs; develop alternative mechanisms for mature technologies. Reports in Q3-2012 and Q3-2013. - Base decisions on future renewables investments on rigorous cost analyses and independent evaluations. Reports in Q3-2012 and Q3-2013. - Modify tax and energy policy instruments to incentivise rational use and energy savings; conduct cost-benefit analyses and consider eliminating exemptions (ISP) and overlaps with PPEC and EEF. [Q2-2012] ### Power Guarantee - Eliminate, by April 2012, incentives for investments where decisions had already been taken prior to 2007 Decree Law; redesign Power Guarantee mechanism to incentivise future capacity considering security of supply and interruptibility services. Estimated reduction in policy costs about EUR 60 million per year. ### Telecommunications and postal services - Telecommunications: - Ensure efficient, transparent mechanism for designation of universal service provider(s); re-negotiate concession contract and launch new tender. [Q1-2012] - Adopt measures to increase competition in fixed communications by reviewing and reducing entry barriers. [Q1-2012] - Postal services: - Conclude transposing law on Third Postal Directive; ensure appropriate powers and independence of National Regulator Authority. [expected by Q1-2012] - Amend concession contract framework and renegotiate with CTT; shorten current designation period for universal service provision to 2020. [Q2-2012] ### Transport — Strategic Plan and sector measures - Implement Strategic Plan for Transport 2011-2015 by Q4-2012, including: - Reform transport SOEs to achieve EBITDA balance focusing on operational cost reductions. - Reduce forecast debt burden of Estradas de Portugal via PPP scope reduction, revision of shadow-toll schemes, and CSR inflation adjustment. - Attract low-cost airlines/routes; focus investment on projects with positive cost-benefit ratio, notably port and freight rail. - Reform regulatory framework to improve effectiveness, efficiency and independence of transport regulators. [Q1-2013] - Present long term vision and list of actions to improve efficiency and sustainability of transport system. [Q3-2012] Include in-depth analyses of capacity, demand, competitive position across modes, integration measures, investment priorities and energy/emission assessments. - Railways sector: - Transpose EU Railway Packages and ensure rail regulator independence. [Q4-2012] - Bring infrastructure manager to operational balance by [Q4-2013]; reduce operational costs by at least 23 per cent in 2012 compared to 2010. [Q4-2012] - Implement network and service rationalisation plans. [Q1-2012]; analyse further rationalisation [Q3-2012] - Ensure new PSO contracts respect Regulation (EC) No 1370/2007; develop capacity for stepwise competitive tendering of PSOs. [Q4-2012] - Make performance scheme on infrastructure charges fully operational and effectively collect payments. [Q2-2012] - Apply yield management on long-distance passenger ticket prices. [Q1-2012] - Privatise freight branch of state-owned rail operator; transfer CP Carga terminals to entity guaranteeing non-discriminatory access. [Q2-2012] - Ports: - Submit revised legal framework governing port work to increase flexibility and align with Labour Code. [Q2-2012] - Improve governance model of ports system to enhance competitiveness and efficiency. [Q2-2012] - Road pricing: - Adopt legislative amendments to achieve full compliance with Directive 1999/62/EC (Eurovignette Directive) and guarantee non-discriminatory toll application to non-resident users. [Q4-2012] ### Other services sector — Services Directive, professions, administrative burden - Adopt remaining sector-specific amendments to fully implement Services Directive. Submit to Parliament by [Q2-2012]; approval by [Q3-2012]. - Adopt sector-specific amendments for construction and real estate to ensure compatibility with Services Directive and TFEU. Submit by [Q1-2012]; approval by [Q2-2012]. - Improve recognition framework for professional qualifications: amend Law 9/2009 and adopt executive orders complying with Professional Qualifications Directive by [Q1-2012]; adopt executive order on services provider prior declaration by [Q2-2012]. - Regulated professions: - Review and reduce number of regulated professions; submit law for professions without professional body in [April-2012]; approval by [July-2012]. - Submit draft horizontal legal framework to Parliament by [Q2-2012]; approval by [Q3-2012]; professional bodies to update statutes by [Q4-2012]. - Administrative burden and Point of Single Contact (PSC): - Improve translations and information availability in PSC by [Q1-2012]; provide single electronic forms for at least two municipal procedures. [Q1-2012] - Adapt PSC content to new legislation promptly after adoption and extend online procedures. Deadlines: within 1 month for content adaptation and 2 months for online forms after adoption. - Make PSC procedures available for "Zero authorization" registrations by [April 2012]; make Zero Authorisation project fully operational for wholesale/retail and restaurants/bars by [Q3-2012]; platform available to all administrations by [Q4-2012] - Extend PSC to services not covered by Services Directive by [Q2-2013]; extend Zero Authorisation to other sectors by [Q3-2013] ### Housing market - Rental and renovation: - Decree Law amending New Urban Lease Act Law 6/2006 and decree law simplifying administrative renovation procedures submitted to Parliament for adoption by May 2012. - Rental legislation aims to broaden renegotiation conditions, phase out rent control considering social vulnerability, reduce prior notice for landlords, allow termination for major renovation with maximum 6 months prior notice, simplify temporary relocation rules, provide extrajudicial eviction procedure shortening eviction time to three months, and strengthen extrajudicial procedures for inherited property division. - Renovation legislation to simplify administrative procedures, define majority of apartment owners as majority of total building value, and standardise conservation/demolition rules. - Property taxation: - Ensure that by end 2012 taxable value of all property is close to market value and update valuations regularly (every year for commercial real estate and once every three years for residential real estate). [Q4-2012] - Gradually rebalance property taxation towards recurrent real estate tax (IMI) and away from transfer tax (IMT), considering social vulnerability. [Q3-2012] - Comprehensive review of housing market with internationally-reputed experts. [Q2-2013] ### Framework conditions — Judicial system and court backlog - Objectives: improve enforcement, restructure court system, reduce backlog, facilitate out-of-court settlement. - Eliminate court backlogs by Q2-2013. [7.1] - Implement targeted measures to reduce backlogged enforcement cases; set quarterly targets and prepare quarterly reports; second report by 15 May 2012. Provide data on small claim cases pending as of 31 December 2011 and concept note on resolving such cases by end-March 2012. Finalise action plan by end-May 2012. [7.2] - Strengthen legal and institutional framework for enforcement agents; prepare action plan by end-February 2012 to identify measures and feasibility of fee structure; oversight body’s full access to enforcement case files operational by 30 June 2012. Finalise action plan by mid-May 2012. [7.3] - Management of courts: - Prepare revised roadmap with quarterly milestones to reduce number of court districts and close underutilised courts by June 2012. Submit Bill to implement roadmap to Parliament by end-September 2012. [7.4] - Alternative dispute resolution: - Submit Bill to improve Justices for Peace regime to Parliament by September 2012. [7.5] - Civil law cases: - Make new Competition and Intellectual Property Rights courts fully operational. [Q1-2012; 7.6] - Prepare draft amendments to Code of Civil Procedure by June 2012 and submit to Parliament by September 2012 to expedite enforcement, consolidate enforcement legislation, empower judges to expedite cases, restrict administrative burdens on judges, enforce statutory deadlines, and establish single judge procedure for small claims. [7.7] - Budget and allocation: - Publish quarterly reports on recovery rates, duration and costs of corporate insolvency cases starting from [Q3-2011], within four months after the end of the relevant quarter. [7.8] ### Competition, public procurement and business environment - Competition and regulators: - Ensure State or public bodies do not conclude shareholder agreements that hinder free movement of capital or influence management/control of companies. Ensure CGD alienates its participation in Galp. [Q1-2012; 7.9] - Restrict discretion under amended article 13(2) of Framework Law of Privatisations so it is used proportionately and does not set holding/acquisition caps beyond privatisation transaction. [Ongoing; 7.10] - Improve speed and effectiveness of competition rules’ enforcement; make specialised court operational. [Q1-2012; 7.11] - Re-examine financial model of Competition Authority following executive order on transfers of payments from regulators. [Q3-2012; 7.12] - Ensure national regulator authorities (NRAs) have necessary independence and resources by Q4-2012 for main NRAs and by Q1-2013 for others: - Provide independent report by internationally recognised specialists on responsibilities, resources and independence of main NRAs; report to be completed by [Q2-2012]. - Based on report, present proposal to implement best international practices by mid-August 2012. [7.13] - Public procurement: - Adopt law revising Public Procurement Code by Q1-2012 to align with Public Procurement Directives, amend provisions on errors/omissions, award of additional works, eliminate exemptions for public foundations, and repeal Art. 42 (7) (8) (9). [7.14] - Submit report analysing effectiveness and impact of procurement measures and enhanced role of Court of Auditors by [Q1-2013]. [7.15] - Business environment: - Make operational procedures for requesting VAT exemptions for exporting firms and simplify indirect export procedures by Q3-2012 under “Simplex Exports”. [7.16] - Draft report assessing financing and non-financing support measures for access to finance and internationalisation, particularly for SMEs, by Q2-2012; modify or adopt measures as necessary. [7.17] - Promote liquidity conditions for business by timely implementing the New Late Payments Directive. [Q1-2013; 7.18] - Continue reducing administrative burdens by including municipalities and all levels of public administration within Simplex Programme. [Q1-2013; 7.19] *Statement by the IMF Staff Representative on Portugal — Executive Board Meeting April 4, 2012* ### 1. This statement provides an update on information that has become available and policy ### _cr1277 - 1. This statement provides an update on information that has become available and policy ### A. National Accounts for 2011 - 2011 national accounts data released by the National Statistics Institute (INE) point to a slightly lower nominal GDP than estimated in the staff report. - Real GDP growth for 2011: -1.6 percent (compared to -1.5 percent in the staff report). - Nominal GDP for 2011: €171 billion (compared to €171.7 billion in the report). - Lower increase in the GDP deflator contributed to the revision. ### B. Fiscal Deficit and Debt - EDP (accrual basis) general government deficit: 4.2 percent of GDP (compared to 4 percent of GDP in the report). - Difference primarily reflects lower VAT (cash accrual adjustments of 0.1 percent of GDP) and higher-than-expected payables from the Madeira region (0.1 percent of GDP). - These changes do not affect the end-December performance criterion (PC) on the general government deficit because that PC is monitored on a cash basis. - Government debt revised up by about €1 billion compared to the previous estimate. - Revised government debt: 107.8 percent of GDP (compared to 106.8 percent of GDP in the report). - Revision mainly reflects: reclassification of government payables to Parpública as formal debt and, to a lesser extent, a PPP reclassification. - The end-December PC on government debt was met by over €7 billion; the revision does not affect staff’s assessment that the PC was met. ### C. Arrears Strategy - Council of Ministers adopted on March 29 a strategy to clear the stock of domestic arrears (prior action). - Strategy features: - Overview of domestic arrears problem and governance arrangements for prioritization and payment decisions. - Government to settle up to €1.5 billion of arrears in the health sector (amount corresponding to underfunding by the State during 2009–11). - Maturity identified as the primary criterion for prioritizing payments. - Remaining arrears (including local and regional governments) to be cleared over time using own resources of responsible entities. - Inspectorate General of Finance to verify validity of claims and ensure the new Law on commitment control is properly implemented by spending units before any settlement. ### D. Resolution of BPN - Sale of Banco Português de Negócios (BPN) finalized following European Commission approval of the restructuring under EU state aid rules on March 27, 2012. - Sale to Banco BIC completed on March 30, 2012. - Transaction restores company viability via restructuring and integration with BIC. ### IMF Press Release: Third Review Under EFF Arrangement and Disbursement - Executive Board completed the third review of Portugal’s performance under a 3-year, SDR 23.742 billion (about €27.63 billion) Extended Fund Facility (EFF) arrangement. - Completion of the review enables immediate disbursement: SDR 4.443 billion (about about €5.17 billion). - Total disbursements under the EFF arrangement after this disbursement: SDR 15.946 billion (about €18.56 billion). - Executive Board approved waivers of applicability for two end-March 2012 performance criteria due to timing of data availability. - EFF arrangement approved on May 20, 2011, is part of a cooperative financing package with the European Union amounting to €78 billion over three years. - Exceptional access under the arrangement: 2,306 percent of Portugal’s IMF quota. ### IMF Acting Chair (Ms. Nemat Shafik) — Key Observations and Recommendations - Good progress on implementing program policies; early signs indicate required economic adjustment is taking place. - Strong program implementation remains essential to ensure program success, rebuild market confidence, and restore growth. - Fiscal consolidation strategy remains appropriate; the deficit target for 2012 is achievable under current policies and outlook. - If downside risks to growth materialize, allowing automatic stabilizers to operate could be considered, but changes to fiscal targets to accommodate policy-induced slippages should be avoided. - Recent fiscal structural reforms supporting consolidation: new commitment control procedures, addressing arrears, restructuring public enterprises, establishment of economic program with Madeira region. - Important to monitor effectiveness of these reforms to limit fiscal risks and ensure deficit targets are met. - Establishment of the new Fiscal Council will help promote fiscal responsibility. - Easing of bank liquidity conditions and prospective public recapitalization of some banks should facilitate orderly deleveraging, but ensure adequate provision of credit to viable enterprises. - Care must be taken so private liabilities do not migrate to the public sector’s balance sheet. - Progress on structural reforms in judicial system, labor and housing markets; reducing electricity rents and improving competition framework important. - With decision to abandon fiscal devaluation, authorities should continue to enhance the reform agenda, including deeper labor and product market reforms, to strengthen competitiveness and improve growth prospects. ### Statement by Arrigo Sadun, Executive Director for Portugal and José Cardoso — Highlights and Data - Program status and macro overview: - Portuguese adjustment program on track; all quantitative performance criteria for 2011 were met. - National Statistical Institute data (March Notification of the Excessive Deficit Procedure) points to overall balance of general government of -4.2%. - Financial deleveraging, reduction in current account deficit, and household and non-financial corporation balance sheet adjustments progressing ahead of initial program forecasts. - GDP decline in 2011: 1.6 percent (less pronounced than originally foreseen; forecast at program start was 2.2 percent). - GDP decline expected for 2012: 3.3 percent (somewhat larger than originally projected). - Cumulative GDP loss over 2011–2012 in line with initial program forecast of around 4.9 percent. - Exports: strong growth in 2011; nominal exports increased 13.1 percent year-on-year in January (year unspecified in statement). - Exports expected to slow in 2012 (relative to 2011) due to deterioration in external demand, with acceleration expected in 2013. - Fiscal policy: - 2011 fiscal target met despite first-half slippages; achievement aided by one-off revenues (partial transfer of banks' pension funds to State Social Security System). - Structural primary balance improved by about 3.5 percentage points of GDP in 2011. - Ambitious fiscal deficit target of 4.5 percent for 2012 is expected to be met under current policies. - Supplementary budget for 2012 approved: - Incorporates cash impact of partial transfer of banks' pension funds. - Foresees lower revenues from taxes and social contributions due to downward revision in economic activity. - Anticipates higher spending: increased pension costs from transfer and higher social transfers due to higher projected unemployment rate. - Accommodates inclusion of Economic Adjustment Program for the Autonomous Region of Madeira. - Does not foresee additional austerity measures to achieve program objectives. - Unfavorable deficit impacts to be offset by: additional revenue from 4G licenses, a significant decrease in interest expenditure, and savings via reprogramming of EU structural funds. - Includes Portuguese contribution to the European Stability Mechanism: €803.9 million. - Strategy for settlement of arrears approved as a prior action for the third review. - Financial sector policies: - Private sector deleveraging underway, including banking sector. - Credit-to-deposit ratio of banks subject to funding and capital plans: declined from around 160 percent in mid-2010 to around 130 percent in December 2011. - Bank lending interest rates have recently interrupted rising trend and recorded slight declines due to: - Decline in Euribor rates since late 2011. - Significant decline in deposit rates partly reflecting Banco de Portugal Instruction 28/2011. - ECB non-conventional measures announced by end-2011 reducing liquidity risk and stabilizing expectations. - Domestic bank credit to private non-financial corporations: declined by 2.4 percent in December 2011 (taking into account operations with no impact on effective financing, e.g., credit sales). - Capital adequacy: - All but two banking groups subject to Banco de Portugal supervision met the 9 percent Core Tier 1 target set under the program for end-2011. - The eight largest banks (accounting for 83 percent of the banking system’s assets) met the target. - System solvency achieved via capital increases, converting debt securities into ordinary shares, and repurchasing traded debt (with capital gains). - Banks face a 10 percent Core Tier 1 target for end-2012 and additional requirements for the four largest domestic groups by end-June 2012 from EBA Recommendation. - Portuguese authorities reviewed banks’ plans to meet capital needs by end-June 2012, including effects from partial transfer of banks' pension funds and the Special On-site Inspections Program (SIP). - Some Bank Solvency Support Facility (BSSF) resources will need to be deployed to ensure capital needs are met. - Amended law on extending temporary public support to viable banks entered into force on February 12, 2012; accompanying regulations being finalized; measures to be consistent with EU State aid rules and subject to conditionality. - Pension fund transfer: - Agreement for partial transfer of banks' defined benefit pension plan obligations and corresponding pension fund assets to the Social Security System as of December 31, 2011. - Operation amounted to about €6 billion. - First tranche of asset transfer completed by end-2011; second tranche during first semester of 2012. - Negative impact on regulatory capital ratios to be neutralized up to end-June 2012. - Operation reduces banks’ future exposures to pension fund risks and allows authorities to use part of proceeds for a credit assignment of up to €3 billion of credits from the banks to the general government. - Structural reforms: - Measures implemented to increase competitiveness, growth, and employment: - Comprehensive review of competition law submitted to Parliament. - Reductions in licensing requirements and red tape for the vast majority of companies. - Revision of urban lease law. - Progress in judicial system reform. - Agreement between social partners for broad labor market reform. - Addressing entry barriers and excessive rents in non-tradable sectors: - Distortions in pricing of pharmaceuticals and telecommunications services addressed. - Next step: reduce energy costs for users and taxpayers. - Privatization program: - Ambitious privatization plan under way; two transactions in the energy sector concluded. - Revenue obtained about 60 percent of total amount foreseen for full privatization program. - Privatizations conducted according to international best practices, fully transparent and non-discriminatory, attracting major global energy sector players. - Expected impact: - OECD and Banco de Portugal (with ECB and Banca d’Italia) estimates: long-term (after 10 years) impact on potential output may be in excess of 10 percent. - About half of the impact may materialize after 3 to 5 years; gains amplified if other European countries also implement structural reforms. - Overall assessment by Portuguese representatives: - Program on track; three pillars—fiscal consolidation, deleveraging and financial stability, and structural reform—provide a coherent framework to address structural imbalances and implement adjustments to gradually build confidence and credibility. *Source: IMF staff update and related statements as contained in the provided content unit.* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2012/_cr1277.pdf_