TROIKA (TRIGA): ASCENSÃO E QUEDA V - ORTUM ET OCCASUM V - THE RISE AND FALL V

Christine Lagarde and Nemat Shafik of IMF

«Portugal: Tenth Review Under the Extended Arrangement and Request for Waivers of Applicability of end-December Performance Criteria»

http://www.imf.org/external/pubs/ft/scr/2014/cr1456.pdf

«Summary: EXECUTIVE SUMMARY The short-term outlook has improved and program implementation remains on track, notwithstanding another adverse Constitutional Court ruling. Stronger domestic demand is supporting a pick-up in activity and lower unemployment. A broad-based recovery in sentiment has led to a decline in yields, allowing Portugal to issue a 5-year bond on favorable terms. The end-September 2013 quantitative PCs were met, and preliminary estimates suggest that the end-December 2013 targets were also met. The authorities are also implementing prior actions to safeguard the 2014 fiscal deficit target, after the Constitutional Court struck down an important pension measure contained in the 2014 budget. Portugal continues to confront major economic challenges. At above 15 percent, unemployment remains at unacceptable levels. High household and corporate indebtedness will continue to act as a brake on both consumption and investment. Portugal’s public debt and external liabilities are also high. In this environment, continued efforts to rationalize public spending, encourage orderly deleveraging, and promote growth and investment in the tradable sector will be essential. Program review discussions focused on sustaining the progress already made and exploring future reform challenges. The 2014 fiscal targets were reaffirmed. In addition to reforms of public financial management and efforts to maintain financial stability, discussions focused on the need to reorient the economy from a debt- financed and consumption-led model to an export-led growth model. Risks to attaining the objectives of the program remain high. Beginning in mid- 2012, legal challenges to fiscal measures have become recurrent, and—with key elements of the 2014 budget law now submitted to the Constitutional Court for review—these challenges have intensified in recent months. This significantly complicates the authorities’ efforts to rebalance the fiscal consolidation effort toward expenditure-based measures, undermines the quality of the resulting fiscal adjustment, and introduces high policy uncertainty, with an attendant negative impact on output and employment. In addition, with its high debt ratios and large refinancing needs, Portugal remains susceptible to abrupt changes in market sentiment. Staff supports the authorities’ request for completion of the tenth review and for waivers of applicability of the end-December PCs. The purchase released upon completion of this review would be in an amount equivalent to SDR 803 million.» [DOMESTIC DEMAND IS NOT STRONGER IS LESS BAD; THE REMAINING HIGH LEVEL OF UNEMPLOYMENT WAS A LITTLE BIT DECREASED BY PERSONS THAT ESCAPE FROM OFFICIAL WORK MARKET TO EMIGRATION OR TO INACTIVITY AND BY EMPLOYMENTS IN SERVICES, INCLUDED GENERAL GOVERNMENT, NOT IN INDUSTRY AND AGRICULTURE; DON´T EXIST WORDS ABOUT REPLACING IMPORTS BY DOMESTIC PRODUCTION AND ABOUT THE BRUTAL PRESSURE OVER FAMILIES AND COMPANIES IN CONTRAST WITH GENERAL GOVERNMENT AND POLITICAL SOCIETY, BURNING AND STRONGLY DEVALUATING DOMESTIC MARKET]  

«(...) The sizable and frontloaded fiscal adjustment has achieved more than two thirds of the structural consolidation envisaged under the program and the remaining adjustment is evenly phased over 2014–

15. Against this backdrop, public debt is projected to be on a declining path from this year. Despite high private sector indebtedne ss, financial stability has been preserved and banks meet minimum capital requirements. Economic activity has bottomed out and a modest recovery is expected this year. External adjustment has exceed ed expectations, with Portugal posting a current account surplus for the first time in several decades. (...) [INCREDIBLE HOW WAS POSSIBLE THAT PRIORITY WAS NOT REFORM OF STATE AND ELIMINATE FOR THE FUTURE PUBLIC EXPENSES THAT DON´T CREATE VALUE TO PORTUGAL LIKE SUBMARINES, AUTOMOBILES, OVER DOSE OF FARMACEUTICAL AND FINANCIAL PRODUCTS, ...]  

Despite the welcome reduction in unemployment, it remains unacceptably high at above 15 percent, with youth unemployment near 37 percent, which could have lasting negative impact on the stock of human capital. The very high levels of corporate indebt edness will continue to act as a brake on investment for the foreseeable future, with current levels of net private investment too low to replace 

the capital stock. Both high unemployment and low invest ment will reduce the economy’s growth potential further if not addressed. Portugal’s external liability position also remains worryingly high and needs to be reversed in order to safeguard external sustainability. (...) [HYPOCRISY, THE PROGRAM WITH IT OVER DEVALUATION OF INTERNAL MARKET IMPLICATE A OVER DECRESING OF EMPLOYMENT. EXPORTS SURPRISED GOVERNMENT AND TROIKA BECAUSE DON´T VALUATE THE STRONG CAPACITY OF COMPANIES AND FAMILIES IN THE JUNGLE, UNDER A GREAT PRESSION OF BRUTAL CREDIT CUTS IN CONTRAST WITH GENERAL GOVERNMENT AND BANKS WITH THOUNSANDS OF MILLIONS OF EXTERNAL CREDIT AND INTERNAL TAXES.]  

Both public and private consumption will have to adjust to a new normal at lower levels, while creating

room for private investment to recover to levels that sustain and eventually increase the economy’s

growth potential. Higher growth is critical to safeguarding public and private debt sustainability. (...) [WHAT ARE THE NORMAL LOWER LEVELS? MIDDLE CLASSES OF REVENUES ARE GOING MORE AND MORE TO POOR LEVELS OF AVAILABLE INCOME, THE NON SUISTNABLE LEVELS OF CONSUMPTION ARE IN GENERAL GOVERNMENT WITHOUT REFORM AND IN HIGH LEVEL OF REVENUES AND PENSIONS INCLUDED IN PUBLIC SECTOR AND IN OLIGOPOLIES AND CARTELS]

Despite the authorities’ reform efforts over the program period, the required reorientation of the economy from the nontradable sector to the tradable sector has yet to gather pace. Continued vigorous efforts are required to reduce rents and increase productivity in the nontradable sector through increased competition and product market reform so that the burden of the required adjustment to achieve sustainability does not fall excessively on labor, and especially unskilled labor. These reforms would be a critical complement to reforms to improve the functioning of labor markets. (...) [THE POWER OF TROIKA OVER PORTUGAL WAS BADLY MANAGED, WITHOUT ANY SUCCESS IN THE GOOD DIMENSIONS OF THE LIBERAL THINKING, LIKE ELIMINATION OF RENTS FROM OLIGOPOLIES AND CARTELS, NOW IN PRIVATE AND INTERNATIONAL CONTROL AND ELIMITATION OF GENERAL GOVERNMENT EXPENSES WITHOUT CONTRIBUTE TO THE CREATION OF VALUE] 

The main priorities were ensuring adherence to the agreed fiscal targets; continued reforms of public financial management; maintaining financial stability and preparing for pan-European banking sector initiatives; and the scope to advance structural reforms to reorient the economy from a debt-financed and consumption-led model to an export-led growth model. (...) [THE DEPENDENCE OF DOMESTIC MARKETS BY COMPANIES THAT EXPORT IS 2/3, ONLY 10% OF COMPANIES EXPORT, EXTERNAL MARKETS COULD HAVE RECESSIONS, SO YOU NEED BALANCE SUPPORT TO A SUSTNAIBLE DOMESTIC MARKET AND INCENTIVES TO EXPORTS AND INTERNATIONAL INVESTING]

Following two and a half years of contraction, economic activity began to turn around in the second

quarter of 2013. Consumption and to a lesser extent investment are recovering, unemployment—albeit

still very high—declined notably, the strong growth of exports continued, and—buoyed by Europe-wide

positive market sentiment—bond yields have declined to levels not seen since mid-2010. As a result,

downside risks to outlook have diminished somewhat, but still remain significant. (...)  

Domestic demand had declined by 13 percent since late 2010—with consumption and investment falling by 11 and 27 percent, respectively—which could not be sufficiently offset by the contribution of net exports. In a reversal of that trend, domestic demand expanded quarter-on-quarter in both Q2 and Q3 of 2013, reinforcing the cumulative positive contribution of net exports and leading to positive overall growth. (...) [QUARTER TO QUARTER BUT THE ANNUAL POINT OF VIEW, DON´T MATTER ANYMORE? THAT VISION OF TRENDS DON`T LOOK FOR EXAMPLE, FOR HOMOLOGOUS DECREASE IN DECEMBER OF 2013 OF RETAIL SALE IN LINE WITH EUROZONE, THAT PUT THE ONLY QUARTER TO QUARTER POINT OF VIEW AS BIASED APPROACH]

While disposable income remained broadly stable since early 2012, the sharp rise in the household savings rate appears to have run its course, with an attendant increase in consumption. The stabilization of the savings rate reflects a combination of higher consumer confidence and perceptions of reduced policy uncertainty. The cumulative contribution of investment (excluding the change in inventories) to overall growth in Q2 and Q3 of 2013 was substantially smaller than that of consumption but positive, and reflected mainly private investment in equipment and machinery—indicative of a     welcome replacement of the depleted capital stock—and a small contribution from construction,       following the sizable contraction of the sector duringthe crisis. Reflecting the ongoing fiscal      consolidation, the level of publicinvestment in 2013 is estimated be about a half of its 2000–10 average. (...) [THIS IS A BIASED VISION ABOUT REALITY, ONLY IN FOOD EXIST A CLEAR INCREASE OF CONSUMPTION]

In particular, manufacturing and hotels/restaurants (the latter a proxy for tourism) accounted for almost a half of the total increase in employment; in contrast, employment in construction has continued to decline. The size of the labor force has stabilized over the course of the year and the unemployment rate is gradually trending lower. [IS FALSE THAT MANUFACTURING HAVE AN INCREASE IN EMPLOYMENT, ONLY SERVICES HAVE, LIKE TOURISM AND GENERAL GOVERNMENT, INCREDIBLE!]  

Core inflation contributed on average only 0.1 percentage points to overall inflation in 2013

(...) the (...) rise in exports was driven mainly by fuel exports and to a lesser extent services, while

growth of nonfuel goods exports was a more moderate (...). In line with the recovery in domestic demand, imports have begun to rise albeit at a more moderate pace, following a decline in 2012. The current account is estimated to have reached a surplus (...). This brings the cumulative adjustment since the current account deficit peaked in 2008 to 13½ percentage points, more than 4 percentage points higher than originally envisaged under the program. In view of Portugal’s highly negative   international investment position, further gains in competitiveness will be needed to ensure sustainability. (...) 

The 10-year sovereign bond yield has declined by more than 200 basis points since its peak of 7.3 percent in mid-September 2013, driven by a combination of continued program implementation and an

improved external environment, with the latter characterized by still-abundant global liquidity and a

recovery in growth in Portugal’s main trading partners. In early December the government

successfully conducted a debt swap to smooth the repayment humps in 2014–15, followed by a 5-

year syndicated bond issuance in early January that met with strong demand from foreign investors,

which further improved market sentiment towards Portugal. While the spread against the German

Bund has been declining in tandem with yields, it remains some 180 basis points higher than that for

Ireland and about 150 basis points higher than that for Italy and Spain. [IF BCE SAID BEFORE WHAT SAID IN 2012, PORTUGAL AND THE OTHER COUNTRIES DON´T HAVE SO MANY PROBLEMS, BUT THE TOXICITY OF BANKS CREATED AFFRAID FOR EUROPEAN DETERMINANT LEADERS]

In line with the recent strengthening of activity, the downside risks to the near-term macroeconomic outlook have diminished somewhat, while the medium-term outlook remains unchanged. [IS NOT GOOD FOR GOVERNMENT IN ELECTORAL CAMPAIGN ABOUT A MANIPULATED ECONOMIC RECOVERY: DECEMBER WAS BAD, PURCHASE AUTOMOBILES BY GERMAN CREDIT IS NOT THE WAY TO GROWTH AND MUCH LESS TO DEVELOPMENT]

There nevertheless are significant risks to the baseline.

An unanticipated increase in uncertainty or a dampening in consumer confidence could curtail consumption growth. Further Constitutional Court rulings against reforms could undermine confidence and growth prospects, in part because the government would have to increasingly resort to lower-quality and less growth-friendly fiscal measures to close the resulting budgetary gaps. Slower external demand could reduce the contribution of net exports and investment to the recovery. Turning to the medium term, the possibility that the drag on growth from the economy-wide deleveraging process could exceed expectations remains a persistent concern. Global financial conditions could also adversely affect prospects, particularly as the unwinding of extraordinary U.S. monetary stimulus now underway

could push yields higher for a broad range of borrowers. Elevated deflationary risks in the euro area

could also add significant headwinds to the regional recovery and impede the repair of the already-

weak private and public balance sheets in Portugal. In addition, while markets tend to view the

country favorably at this conjuncture, market conditions could quickly deteriorate if any of these

uncertainties were to materialize, as evidenced by the volatile market sentiment towards Portugal

throughout the program period. (...) [SO MANY RISKS IN A MORE VULNERABLE ECONOMY AFTER FINANCIAL ASSISTANCE PROGRAM] 

Fiscal performance has been in line with the program, with the 2013 target expected to have been met with some margin. (...)

The 2014 budget law was ratified in line with staff’s understandings and consistent with a deficit target of 4 percent of GDP. (...)

A new ruling by the Constitutional Court has complicated the authorities’ efforts to effectively rebalance the fiscal consolidation effort toward expenditure-based measures. (...)

While there has been notable progress in fiscal structural reforms, important challenges remain in expenditure control and arrears. (...)

PPPs renegotiations are ongoing, although with some delays. (...)

The financial performance of state-owned enterprises (SOEs) has improved, and the privatization program is on track. 

The debt outlook remains fragile

.

The debt peak has been revised upward and is now set to have peaked below 129½ percent of GDP in 2013, around 1 percentage point higher than projected at the time of the previous review.

However, this has largely been due to the accumulation of cash buffers. Accordingly, net debt—         excluding central government deposits—is projected to smoothly peak at around 120 percent of GDP

in 2013 and 2014, slightly below the earlier projections.

The decline in the general government gross debt-to-GDP ratio starting in 2014 is expected to be

supported in part by further use of cash deposits as well as by the ongoing reallocation of the Social

Security portfolio from foreign assets to government securities.

Most importantly, the sustainability of Portugal’s debt trajectory continues to hinge on strong fiscal

effort—including via its positive impact on credibility and market rates—as well as on further advances

in the structural reform agenda to support competitiveness and anchor long-term growth.

Accordingly, debt dynamics remain highly vulnerable to macro-fiscal as well as contingent liabilities shocks. (...)

There was agreement that if some of the measures in the budget were determined to be unconstitutional, the government would identify and implement compensatory measures of high quality to meet the agreed deficit targets. Accordingly, after the Constitutional Court struck down the CGA pension measure on December 19, the authorities announced offsetting measures to safeguard the 2014 deficit target. These include the frontloading of the planned increase in the beneficiaries’ contributions to the special health insurance schemes (ADSE, SAD, and ADM), with corresponding savings for the State, and a recalibration of the parameters of the existing extraordinary solidarity contribution on pensions (CES). Submission to Parliament of the revised CES through a supplementary budget and approval by the Council of Ministers of the decree law on the change in contributions to the special health insurance schemes are prior actions for completion of this review. These measures will provide the authorities with the necessary time to develop a more comprehensive structural reform and expenditure rationalization of pensions—critical to addressing the still large gap between social transfers and social contributions and improve intergenerational equity—in line with the Court ruling, with preliminary discussions to take stock of this process to beheld at the time of the eleventh review. 

Efforts are now focused on budget implementation.(...) In particular to ensure the targeted reduction in the size of the public sector workforce, following the conclusion of a first voluntary separation scheme (with about 3,000 applicants), the authorities have already launched two new programs, with others in the pipeline, targeting different career categories

and line ministries. (...)

However, the risk of further adverse legal rulings remains. While all the PER measures in the budget law and in the supporting legislation were designed with a view to ensure sustainability, effectiveness, and social equity of the state expenditure programs, further legal challenges have arisen. In January, the opposition submitted some articles of the 2014 budget law to the Constitutional Court, contesting four expenditure measures that were to yield around ½ percent of GDP in savings. There is no definitive timeline for a ruling by the Constitutional Court, but the authorities remain committed to meet the fiscal targets through the identification of alternative measures of equivalent size and quality. This, however, would be a challenging task, given the increasingly limited room for maneuver on the expenditure side and the need to avoid one-off and lower-quality measures. (...) 

Despite these persistent legal hurdles, the authorities are determined to advance the reform of public administration to anchor their medium-term fiscal consolidation path.

To reach the targeted deficit of 2.5 percent of GDP and the corresponding exit from the EU Excessive

Deficit Procedure in 2015, the authorities will need to identify additional permanent measures of

about 1.2 percent of GDP. Moreover, further fiscal effort of about ½ percent of GDP beyond staff’s 

baseline projections will be needed in the outer years to comply with requirements of the Treaty on

Stability, Coordination, and Governance in the EMU (Fiscal Compact). To meet these objectives, the

authorities are advancing specific measures to rationalize public administration, including through a

review of public sector remuneration and careers aiming at introducing single wage and supplement

scales. Preliminary discussions will be held at the time of the eleventh review to assess progress on

these measures, with detailed proposals underpinning the medium-term budgetary plans to be

included by the authorities in the 2014 Fiscal Strategy Document, to be published in April. (...)

(...) design of the forthcoming insolvency procedure for local governments, including a Municipality

Resolution Fund introduced by the Local Financing Law 

The financial sector remains stable, thanks to the successful completion of the 2012–13 capital

augmentation exercise, resilient customer deposits, as well as exceptional liquidity support from the

Eurosystem. However, credit to the private sector remains depressed and, in the context of ongoing

bank deleveraging and financial fragmentation, the economic recovery in the foreseeable future will

need to rely less on bank credit than prior to the crisis. Therefore, it is essential to strengthen corporate

sector balance sheets by facilitating an orderly deleveraging process and to explore alternative funding

sources from private capital markets for viable firms, notably SMEs. 

While capital buffers remain robust, the weak domestic environment continues to weigh on banks’ performance.

All banks continue to meet the minimum capital requirements set under the program, and remain resilient under adverse scenarios while adequate provisioning levels are being safeguarded through  periodical impairment reviews. However, banks’ profitability is being negatively affected by reduced business volumes, elevated impairment charges, and high funding costs. This development, in turn, weakens the banks’ ability to generate new capital. Nonperforming loans (NPLs) continue to increase, the past year being largely driven by developments in banks’ corporate portfolios. Although international activities continue to contribute to earnings, and banks are gradually reducing their cost base (...) neither effect is sufficient to offset the reduced earnings capacity of domestic operations.

In the context of stable deposits, banks’Eurosystem liquidity exposure declined gradually since its peak in June 2012 and stood at about €51 billion in November 2013, with a comfortable collateral buffer of about €30 billion covering over one year of banks’ refinancing needs. Nevertheless, credit conditions remain challenging, especially among SMEs. 

Credit continues to contract in aggregate terms, reflecting the ongoing deleveraging by banks and still-weak credit demand, although the pace of decline has moderated somewhat in recent months. Nevertheless, credit developments remain consistent with the much-needed rebalancing towards the tradable sector. Loans to the nontradable sector—notably construction and domestic trade—have contracted significantly, while loans to exporting firms have grown.

Reflecting banks’ weak profitability and still difficult market conditions, lending rates to the corporate sector remain elevated. Notwithstanding some decline from their peaks in late 2011, rates on new business loans stay well above those in euro area peers. (...)

Notwithstanding ongoing efforts to cut labor costs and capital expenditure, the reduction in the nominal debt by Portuguese companies has been slower than the decline in nominal GDP. As a result, total debt remained above 155 percent of GDP, on a consolidated basis, as of December 2012. This persistently high indebtedness has resulted in companies’ rising difficulty in servicing their debt—over 65 percent of the corporate debt is on the balance sheet of enterprises with an interest coverage ratio

(ICR) of 2 or less [ICR=EBITDA/INTERESTS MEANS THAT INTEREST/EBITDA ARE 50% OR MORE]

Robust capital buffers provide the largest banks with a favorable starting position for the Comprehensive Assessment in the context of the Single Supervisory Mechanism. 

Credit Impairment. To ensure timely and consistent recognition of losses, the BdP is developing

guidelines on measuring credit portfolio impairment, incorporating best practices identified during the three impairment reviews that have been conducted since May 2011, expected to be published by mid-February. In addition, the guidelines require the institutions to promote greater disclosure of information on asset quality and credit risk management, with the aim to provide market participants with a better understanding of the institutions’ risk profile. 

Restructured Loans. Following the publication of draft implementing technical standards on

nonperforming exposures and forbearance—developed by the European Banking Authority to

enhance cross-border comparability of asset quality indicators—the BdP has amended its

instruction on the identification and marking of restructured loans due to financial difficulties of

the client. Among the changes are more conservative criteria that must be met before a

restructured loan may cease to be marked as such , including a two-year probation period during

which regular payments of principal have to be made. (...)

Real Estate. Real estate valuation requirements have been tightened for all institutions. As part

of the implementation of the new standards, institutions have been requested to ensure that

their collateral valuations remain sufficiently conservative. (...)

(...) possibility for a conversion of deferred tax assets (DTAs) to counteract mandatory deductions under CRD IV.

DTAs are assets on banks’ balance sheets that can be used to reduce future corporate income tax

payments. As in other euro area member states, Portuguese banks have built up a significant

position of DTAs, arising largely from temporary differences between the accounting treatment of

loan loss provisioning and the tax deductibility thereof. Under CRD IV, DTAs that rely on future

profitability of the bank are to be gradually deducted in the calculation of CET1, recognizing that

DTAs only create value if a bank can generate sufficient taxable income against which they can be

offset. Such deductions can be averted by replacing the DTAs with tax credits that can be offset

against the institution’s tax liabilities and, under certain circumstances, constitute a direct claim on

central government. Staff was of the view that while a conversion of DTAs to nondeductable tax

credits would have a positive effect on the bank’s forward-looking capital ratios, it would be

important to guard against a materialization of fiscal liabilities. Moreover, it is advisable to ensure

that any DTA conversions are contingent on actions that contribute to the strengthening of the

bank’s balance sheet. Such actions could include simultaneous equity issuances, additional

provisioning, and disposals of distressed assets. [WE DON´T AGREE WITHH THIS KIND OF FACILITIES TO THE BANKS IN CONTRAST WITH NO FACILITIES TO NON FINANCIAL COMPANIES AND FAMILIES]»

To be continued

Ms. Nemat Shafik (IMF) http://www.imf.org/external/np/sec/pr/2014/pr1455.htm:
«The Portuguese authorities’ implementation of their Fund-supported program has been commendable, despite recent legal setbacks. The authorities have promulgated a 2014 budget consistent with program objectives, and have introduced measures to offset the component of the pension reform invalidated by the constitutional court. At the same time, while the short-term outlook has improved, unemployment, while declining, remains high and risks remain. The authorities’ continued strong commitment to program implementation is crucial to strengthen the recovery and make further progress in achieving fiscal and external  sustainability.
It will be important to complete fiscal consolidation to put the public debt firmly on a downward path. Pressures to increase public expenditure should be resisted, and efforts to rationalize public administration and narrow the gap between social transfers and contributions should be continued. Further fiscal structural reforms, including in revenue administration and arrears control, are critical to maintain sustainable public finances and minimize budgetary risks.
Preserving financial stability while promoting access to credit is necessary to facilitate a durable recovery. Given high levels of corporate debt that constrain bank credit, stepped-up efforts to facilitate an orderly deleveraging process and measures to promote access to funding for viable firms are needed.
Structural reforms are key to raising the Portuguese economy’s growth potential. Greater product market competition and labor market flexibility are still needed. In addition, higher investment, especially in the tradable sector, is needed to generate greater employment and the sustained external surpluses necessary to unwind imbalances.

The commitment by the European leaders to support Portugal until full market access is regained, combined with continued strong program implementation, is essential to help the country remain resilient to shocks and consolidate progress.»