Portugal’s economy waits for the storm clouds to finally lift

A few years back, I interviewed a professional yachtsman. In his mid-twenties, but with a manner older than his years, he made his living delivering yachts around the world. I asked him if he had ever been scared. He paused and then, clearly discomfited by the memory, replied that a few years earlier he had skippered a crew of four sailing a yacht from the UK down to Portugal.

Crossing the Bay of Biscay, a ferocious storm, which had been forecast to travel far to the north, suddenly veered south. Amid mountainous waves and howling winds, the yacht turned turtle on three separate occasions before fortunately self-righting. It was so terrifying a tempest that two of the crew, all professional yachtsmen, locked themselves in their cabins and refused to come out. The skipper believed he was lucky to have lived to tell the tale.

Economists are far worse at predicting the future than meteorologists. Last year, most forecasters believed the Portuguese economy would enjoy another year of strong growth. But the Covid-19 hurricane blew out of nowhere to strike the global economy. Economic activity came to a standstill amid lockdowns across the world.

The coronavirus means that predicting Portugal’s prospects for next year is also very difficult. It all depends on how quickly vaccines become available and how effective they prove. At the moment, nobody knows the answer, but every lockdown certainly delivers immense economic damage, causing job losses and failed businesses.

2021 bounce predicted
For what it is worth, the European Commission’s latest forecast, published in November, anticipates the Portuguese economy will expand by 5.4% next year, having contracted by 9.3% in 2020. Meanwhile, government debt will amount to 130.3% of GDP by the end of 2021, down from 135.1% in 2020 but up sharply from 117.2% recorded in 2019.

Portugal’s small and open economy, and its high dependence on tourism, left it particularly vulnerable to the impact of the coronavirus on the global travel industry and international trade. More positively, the government’s “simplified layoff” scheme and incentives to normalise business activity through tax deferrals, grants, and state-guaranteed credit lines, have helped firms with liquidity problems, and limited the increase in unemployment rates, according to the ratings agency Fitch. However, the agency believes the jobless rate will stay close to 8.1% in 2021, compared with 6.5% in 2019.

However, there are some grounds for optimism. The current economic forecasts take no account of the impact of the EU’s Next Generation Funds, designed to help Europe recover from the effect of the coronavirus. These funds amounting to €750 billion include €13 billion for Portugal, equivalent to 6.0% of GDP. The exact timing and use of these funds remain uncertain, but they will certainly boost economic growth and employment.

Pent-up demand for tourism bodes well
There is also the prospect of a surge in tourism next summer – if the vaccines prove effective. Tourism accounts for over 14% of Portugal’s GDP, one of the highest levels in the EU. Although Covid-19 has also ravaged the economies of key tourism markets such as the UK, those people who have kept their jobs are flush with funds.

With limited opportunities to spend their money, savings rates in the UK, which accounts for 20% of overall tourists coming to Portugal, have jumped to staggering levels. In July, for example, the UK’s household savings rate leapt to 28%, up from around 5 to 6% pre-Covid. Locked at home and starved of foreign holidays in the sun, Portugal should see a flood of bookings from the UK and other key northern European markets once airline travel is liberated.

There are also grounds for hope on that enormous debt level. As every mortgage holder knows, the key determinant of whether a debt is sustainable is how much it costs to service. Fortunately for Portugal, and thanks to the European Central Bank’s vast programme of Quantitative Easing (QE) whereby it buys up government debt across the Continent, borrowing costs in Europe are minimal.

Indeed, at the end of the November, the yields on Portuguese government debt reached new all-time lows. The yield is effectively the interest rate Lisbon pays when it borrows money. So, at the end of November, Portugal had to pay just 0.006% to borrow money over 10 years. By contrast, the yield on the 10-year US treasury bond, the safest investment in the world since it is backed by the full might of the US government, stood at 0.84%. In the strange new world created by QE, Lisbon can borrow money much more cheaply than Washington. If you think there is no sense in that, you are almost certainly right! But it also means that even at 135% of GDP, Portugal’s government debt levels are unlikely to prove too onerous.

Hopefully, the economic shock caused by Covid-19 could also force the government to step up its efforts to reform the economy, attract more foreign investment and boost efficiency, so raising the country’s long-term economic growth potential. The Organisation for Economic Cooperation and Development has urged:

• The widening of vocational training programmes to tackle long-term unemployment.
• Deregulation of service sectors, including professional services such as the legal profession, and transport.
• The provision of greater resources to corruption-fighting agencies.
• Boosting judicial efficiency. Currently it can take a very long time to recover debts, making it harder for entrepreneurs to raise funds for their business ideas.

Encouragingly, the government has made major strides in reforming the economy since the global financial crisis so it is possible to be optimistic that further measures will be enacted. Overall, then it is probably best to say goodbye to 2020 without a backward glance and hope that 2021 proves a much happier year.

By Anthony Beachey
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Anthony Beachey is a former BBC World Service journalist now working on a freelance basis in Portugal, where he specialises in economics and finance.