Economic growth slows as ECB tightens monetary policy
The post-pandemic economic recovery strengthened by 2022, enabling GDP to exceed its pre-crisis level from the start of the year. Confirmation of the rebound in the tourism sector and private consumption in 2023 will enable the country to post economic growth well above that of its European peers (around 1% on average in the eurozone). While growth should remain solid in 2024, it will nonetheless slow as the main drivers of the rebound run out of steam. Private consumption, which was hitherto buoyed by the strength of the labour market and pent-up demand during the pandemic, will suffer from persistently high inflation and its negative impact on consumer purchasing power. Moreover, Portuguese households are particularly affected by the rise in interest rates, since almost 90% of the stock of mortgages, which account for more than three-quarters of their debt, is in floating-rate loans. Private investment will also be dented by harsher financing conditions given that the European Central Bank (ECB) is unlikely to start lowering rates again before the second half of 2024. Although inflation traced a downward path in the first half of 2023 in Portugal as in the rest of the eurozone, the easing trend was mainly attributable to energy prices, while underlying inflation (i.e., excluding energy and food) continued to rise. What's more, after slowing in 2023, Portuguese exports are expected to only rebound slightly in 2024 as the regional economy remains sluggish.
Despite these multiple headwinds, activity will continue to be driven by the tourism sector, on which the country is heavily dependent (17% of GDP and 50% of service exports in 2019). However, after a dazzling recovery (12% more international tourists in the first four months of 2023 than in 2019), activity should grow more moderately in 2024. In addition, public investment in energy transition, infrastructure and digital transformation will continue to support growth as the country is one of the main beneficiaries of European funds, with €13.9 billion in grants under the Recovery and Resilience Plan (RRP), in addition to €2.7 billion in loans, for the 2021-2026 period. While funds are expected to be lower than in 2023, which was the peak year for disbursements, they should exceed €3 billion in 2024 (1.3% of 2022 GDP).
Improved public and external accounts
Despite substantial budgetary support to address the cost of living, public finances improved considerably in 2022 thanks to strong growth in nominal GDP and an outperformance in revenues. Public finances will continue to improve in 2023, thanks to the gradual withdrawal of considerable household support measures (0.8% of GDP in 2023, compared with 2% in 2022). In 2024, the government should continue its strategy of fiscal prudence, and withdraw the support measures in their entirety. Public investment, which will remain robust under the RRP, will essentially be financed in the short term by subsidies, so that it will have a neutral impact on the budget balance. The public debt ratio, which will have fallen back below its pre-pandemic level by 2022, will remain on a markedly downward trajectory by 2024 thanks to improvement in the primary balance and nominal GDP growth.
After deteriorating in 2022 as a result of the surge in world commodity prices, the current account should return to surplus in 2023 before stabilising in 2024. This will be made possible by the reduction in the structural deficit in the goods balance (-11% of GDP in 2022) which, despite sluggish external demand, will benefit from much cheaper imports than in 2022. The surplus on the balance of services (9% of GDP in 2022) will remain solid by 2024 and be fuelled mainly by income from tourism. Similarly, the surplus on the balance of income will be maintained (0.7%), with remittances from the Portuguese diaspora making up for dividends repatriated by foreign investors. Last, the capital account surplus (2.4% of GDP projected for 2023) will be driven by the substantial financing that Portugal is due to receive from the European Union over the next few years.
Stable governance by Prime Minister António Costa's majority party
Since the last snap legislative elections in January 2022, Prime Minister António Costa has enjoyed unprecedented political stability to push ahead with reforms without having to rely on the votes of his former coalition partners: the Left Bloc (BE, extreme left) and the Democratic Unitary Coalition (CDU, union of communists and ecologists). The Socialist Party (PS, centre-left) holds an absolute majority in Parliament with 117 seats out of 230 (9 more than in 2019), while the BE (5 seats, -14 compared with 2019) and the CDU (6 seats, -6) were the big losers in those elections. On the other side of the political spectrum, while the main opposition party remains the PSD (centre-right, 76 seats), the far-right Chega party became the country's third political force, winning 12 seats, up from just one in 2019. Against this backdrop, and despite the resignations of several ministers and secretaries of state in December 2022 following a scandal over large allowances received by the Secretary of State for the Treasury, the risk of political instability remains moderate and António Costa should be able to govern until the next general election in 2026.