Portugal: Staff Concluding Statement of the 2022 Article IV Mission
IMF News, May 16, 2022
Source details
- Canonical URL
- Portugal: Staff Concluding Statement of the 2022 Article IV Mission
Other formats
Bibliographic details
- Published: May 16, 2022
Mission and context
- Mission led by Rupa Duttagupta conducted discussions during October 21-November 4, 2021 (virtual) and May 9-13, 2022 (in-person).
- Portuguese economy gained ground in 2021 after a deep pandemic-induced recession; economy was harder hit than the euro area (EA) due to relevance of tourism.
- Strong vaccination drive allowed early lifting of activity restrictions and supported the recovery through early 2022.
- New risks from the war in Ukraine: spillovers through higher commodity prices, greater supply bottlenecks, weaker confidence, softer external demand, and tighter financial conditions.
Economic outlook and risks
- Growth projections:
- "about 4.5 percent in 2022 and 2 percent in 2023."
- "Over the medium term, growth is projected to moderate to below 2 percent"
- "output still remaining some 2 percent below its pre-pandemic trend by 2027."
- Revisions:
- "This represents a cumulative downgrade of about one percentage point relative to pre-war."
- Drivers:
- Growth expected to be led by private consumption, NGEU-backed public investment, and exports; tourism reaching its pre-pandemic level in 2023.
- Inflation:
- "Inflation is projected to rise to 6 percent in 2022 and start receding in 2023 on the back of declining energy and food prices."
- Downside risks (tilted to the downside):
- Exceptional uncertainty surrounding the war and potentially new virus waves.
- Tighter financial conditions could hurt growth and the fiscal position.
- Effects of the end of loan moratoria have not yet fully materialized and could expose higher insolvencies, lowering investment and bank capital.
- Slower use of NGEU funds.
- Public debt will remain high despite projected decline.
- Rising real estate prices constitute an added vulnerability.
- Upside scenarios:
- Continuation of strong tourism recovery.
- Further bounce-back from pent-up demand supported by high vaccination rates.
- Higher payoffs from NGEU investments.
Policy priorities (overview)
- Balance short-term urgencies (high energy prices and war impacts) with:
- Smooth transition to private-led growth.
- Rebuilding fiscal space.
- Advancing reforms for a more resilient economy.
- Medium-term emphasis:
- Structural reforms (including in the context of the Recovery and Resilience Plan, RRP).
- Sustained public investment.
- Fiscal consolidation within a medium-term plan to raise growth potential and accelerate income convergence to the EA.
Fiscal policy
- Near term:
- Unwinding of COVID-19 measures while maintaining a broadly supportive fiscal policy in 2022 is appropriate.
- Excluding exceptional COVID-19 measures, "a projected fiscal deficit of 2.4 percent of GDP is appropriately accommodative."
- Authorities have recently taken measures to mitigate the impact of high energy prices.
- NGEU grant-financed spending provides additional support.
- "Some 2 percent of GDP of the 2020–21 fiscal measures are expected to be permanent."
- Recommendation: further support should be sufficiently targeted and temporary; broad-based price measures and tax cuts should preferably be replaced with more targeted and temporary support for vulnerable households and viable firms.
- Fiscal policy should be nimble to provide targeted contingency measures under severe downside risks and ready to achieve more ambitious fiscal savings if the economy surprises to the upside.
- From 2023 (medium term):
- "A gradual fiscal adjustment will be needed to rebuild fiscal space, address ageing-related spending pressures, raise public investment, and reduce debt-related risks."
- Early announcements of specific fiscal reforms and effective implementation of the Budgetary Framework Law (BFL) would bolster credibility.
- Recent amendments to the BFL to strengthen the budgetary process and improve integration of the annual budget with the medium-term budgetary framework are welcome.
- Recommended growth-friendly fiscal adjustment focus areas:
- Tax reforms:
- Greater efficiency, elimination of distortions, broadening the tax base.
- Strengthen tax policy and tax expenditure analysis.
- Streamline and constrain proliferation of tax incentives.
- Revisit reduced VAT rates.
- Strengthen less distortionary instruments, such as property and environmental taxes.
- Rationalizing current spending:
- Bolster pension sustainability.
- Strengthen financial management in the national health service.
- Improve financial sustainability and governance in state-owned enterprises.
- Better target social benefits.
- Contain the public wage bill via a comprehensive review of public employment and compensation structures.
- Maintaining strong growth-enhancing public investment:
- Public investment has fallen below EU peers over the last decade.
- NGEU funds can help reverse this trend with scaled up R&D, digital and climate transitions.
- Efficient and transparent planning, budgeting, implementation, and oversight are key.
- "Stronger fiscal efforts during 2023–26 will enable maintaining public investment beyond the RRP."
Corporate and financial policies
- Corporate sector solvency:
- Support measures estimated to have saved "some one-third of jobs and 20 percent of NFC output."
- Pandemic-induced solvency needs estimated to have risen by "some 2¼ percent of GDP," with accommodation and food services and transport most impacted.
- Additional vulnerabilities from the war, cost-push pressures, supply chain disruptions, and higher interest rates could increase insolvency risk.
- Policy recommendations for corporate sector:
- Resilience and Capitalization Fund (managed by Banco Português de Fomento, BPF) expected to support debt reduction and recapitalization of viable corporates.
- Prompt implementation of targeted viability-based solvency support leveraging banking sector technical expertise for NFC viability assessments.
- Clearly define the role of the BPF to ensure accountability and avoid market distortions.
- Establish and announce a short-term deadline for the suspension of the duty to file for insolvency to allow normalization of insolvency and restructuring system.
- Swift liquidation of non-viable enterprises, complemented with targeted support for the vulnerable and active labor market policies for displaced workers.
- Consider simplifying and strengthening Portuguese restructuring and insolvency law; establish clear guidelines for participation of public creditors in procedures; streamline liquidation procedures by addressing bottlenecks in verification of claims and sale of assets.
- Continue strengthening insolvency statistics for better analysis.
- Banking sector and macro-financial risks:
- Close monitoring of banks’ credit quality remains essential.
- Impact of end of moratoria and housing market risks are sources of uncertainty.
- Prudential authorities actively monitoring credit quality; materialization of credit risk has not been as significant as expected early in the pandemic.
- NPL reduction strategies are progressing, though a few banks have not completed adjustment processes.
- Ongoing efforts for timely identification, reporting of credit risk, loan classification, and provisioning need to continue.
- Monitor risks from rising real estate prices.
- Once recovery is well established, Banco de Portugal could consider introducing a positive rated countercyclical capital buffer or a sectoral systemic risk buffer against macro-financial risks from banks’ real-estate exposures.
- Rebuilding capital buffers should proceed gradually; dividend distributions and share buybacks should be cautious until uncertainties on capital needs are better assessed.
Structural policies
- Recovery and Resilience Plan (RRP) as an opportunity to transform the economy to be more resilient, dynamic, and green.
- Labor market and skills:
- Advance reforms to raise skill levels and increase competitiveness.
- Address skill gap and labor market duality to unlock growth.
- RRP includes targets and reforms to improve quality of education and training, provide lifelong learning for low-skilled adults, reduce digital skill gaps, and raise employability.
- Need to address labor duality due to differences between permanent and temporary contracts.
- Active labor market policies (planned in the RRP and the 2022 Budget), higher flexibility of permanent contracts, and improved protection of temporary workers would help reduce contract differences.
- Climate and energy:
- Portugal has high share of electricity from renewables; carbon tax introduced in 2015; last coal-fired power plant phased out in 2021.
- Authorities plan to invest "3 percent of GDP by 2030" to support climate-related research and innovation.
- Achieving RRP milestones for sustainable mobility, energy efficiency, renewables, decarbonization and the bioeconomy requires accelerated implementation of the Roadmap for Carbon Neutrality 2050 and the National Energy and Climate Plan.
- Priority measures: promote use of biofuels and hydrogen in transport, accelerate renovation of buildings.
- Consider further adjustment of the carbon price combined with measures to offset impact on the most vulnerable households.
- Given exposure to extreme weather events, raise investment in risk prevention, preparedness, and climate adaptation.
Closing
- Mission thanks interlocutors in Portugal—the government agencies, Banco de Portugal, the private sector, and civil society—and the European Central Bank for sharing their time and knowledge.
Portugal: Staff Concluding Statement of the 2022 Article IV Mission (May 16, 2022).