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What now for Portugal and its economy? Another IMF mea culpa?

What now for Portugal and its economy? Another IMF mea culpa? Mindful Money

This week the Troika, made up of the European Commission, the European Central Bank and the International Monetary fund, is visiting Portugal to decide on its economic progress. We do not yet know if they will declare their now familiar harbinger of doom encapsulated by the phrase “on track”, but there is food for thought in the fact that this is the 8th and 9th review.

Such reviews have produced remarkably rose-tinted views of what is happening. For example, the 4th review told us this in June:

Growth in 2012 may hold up better than expected.

Actually the last quarter of 2012 was the worst performer falling by 1.8% compared to the preceding quarter and meaning that the annual rate of fall rose to 3.8%.
The ambitious 2012 fiscal deficit target remains within reach.

This “ambitious” target was for the fiscal deficit to be 4.5% of Portugal’s Gross Domestic Product or annual economic output. It was missed substantially according to Eurostat which records the 2012 fiscal deficit at 6.4% of GDP. This is a particular reverse as 2011 was 4.4% - so yet again we see Euro area austerity leading to higher and not lower fiscal deficit.

Accordingly, we note that being “on track” includes getting the two key figures of austerity (growth and the fiscal deficit) completely wrong. Those who have followed the bail out of Portugal and my updates on it have probably already added the word again to that last sentence. Those of you who have not might like to review this from Dominique Strauss-Khan (whatever happened to him?) as the initial bailout was announced:

A carefully balanced mix of measures— amounting to about 10 percent of GDP, including those in the 2011 budget—will reduce the budget deficit to 3 percent of GDP by 2013, and stabilize public sector debt.

The catalogue of disasters here include a budget deficit double his forecasts/boasts and a public debt to GDP ratio which has risen from the 90% discussed in the bail-out documentation to 127.2% at the end of the first quarter of 2013. So, out of control rather than stable.

Apparently though this is a success

According to German Finance Minister Wolfgang Schauble writing this week in the Financial Times, what I have described above is a reflection of this:
What is happening turns out to be pretty much what the proponents of Europe’s cool-headed crisis management predicted. The fiscal and structural repair work is paying off, laying the foundations for sustainable growth.

I am not sure whether it is better whether we regard Herr Schauble as delusional or just plain wrong. Of course, both are often features of a politician facing an election!

His example of how Germany reformed its economy loses contact with reality for the peripheral nations like Portugal in two major places. Germany was an exporter able to take advantage of increasing as opposed to falling demand elsewhere; in Portugal there has been very little reform and, from some private-sector eyes, may even have gone backwards.

Perhaps if Herr Schauble got out a little more, he might see the consequences of an unemployment rate that was supposed to stop rising at 13.5% but is now at 16.4%. Even worse, both the labour force and participation rates fell as these flatter the unemployment rate meaning that reality is sadly even worse than a grim headline number.

In conclusion, my musical theme for Herr Schauble comes from PM Dawn whose advice he seems to be following:

Chase the blues away
Take your mind off reality and leave her alone

Meanwhile back to reality

On the 2nd of September I gave this view on the economic state of play in Portugal:
As I review the situation in Portugal I am reminded of the situation in the 1920s and 30s where there were ebbs and flows in the Great Depression. To my mind that is exactly the correct theme for Portugal which has recorded a move out of recession but remains firmly trapped in an economic depression.

That update looked at disappointing numbers for industrial production and retail sales as well as the car-free roads which Europe subsidised just in time for the rising tolls to make them too expensive for the ordinary Portuguese.

Bringing it up to date

Since then we have seen disappointing data for industrial orders.
In year-on-year terms, the Industrial New Orders Index decreased by 1.9% in July (change rate of -0.2% in the previous month). This result was mainly due to the performance of the external market index, which decreased by 3.0% (reduction of 1.4% in June).

It was particularly notable that the success story for Portugal - exports, or rather orders for them - was very weak in July. This was reinforced by what happened in August according to @WEAYL:
Production at the massive VW plant south of Lisbon (representing just on its own 0.85% of Portuguese GDP in 2010 and hugely important to Portugal’s industrial base) fell 59% in August, compared to August 2012.

That size of drop is likely to be a genuine blip (as opposed to the other type) but in August, vehicle car registrations sales were down 5% in in the European Union compared to a year before. Actually, VW did worse at -11.2%, so prospects for exports do not look hopeful.


This continues to spiral downwards and was in fact the largest faller in the Euro area.
The index of production in construction decreased by 16.1% in the quarter ending in July 2013, in year-on-year terms…Employment and wages and salaries registered year-on-year change rates of -14.5% and -16.0%, respectively.

The Service Sector

This is the largest sector but the best we can say about it is that the rate of year on year decline slowed in July:
The services turnover index, adjusted for calendar and seasonal effects, decreased 3.4% in July, in year-on-year terms (change rate of -5.8% in June)… The year-on-year change rates of the indices of employment, wages and salaries and of the number of hours worked, adjusted for calendar effects, were -3,7%, -2.9% and -3,8%, respectively.

We get an idea of the economic destruction that has taken place here from the underlying index, which was at 78.8 in July in seasonally and calendar adjusted terms, compared to 2005 being 100. If we look for the peak of this series it came in at 107.4 in 2008, so the decline since then is 27% - which is of economic depression type levels. Perhaps no-one has informed Herr Schauble about this.


Unfortunately, Portugal finds itself between a rock and a hard place. If we replace some Germanic fantasies of “doing well” with reality, the Portuguese economy is still struggling and the bail-out plan requires the Portuguese to find an extra 4 billion Euros of austerity in 2014. So even the fantasies will collide with a by now familiar cycle of austerity, followed by economic weakness, followed by more austerity - and repeat. If you believe that the situation remains weak then it will simply get weaker and extend the existing economic depression.

Alongside these problems comes the emigration of what are often Portugal’s youngest and brightest. After spending money on educating its youth it must be a bitter pill for Portugal to swallow to see so many depart its shores. We saw a hint of this in the declining labour force numbers I mentioned above.

Accordingly, it remains my opinion that the current 78 billion Euros will be, in University Challenge terms, a starter for ten, and will be followed by another package. The financial markets have cottoned onto this again and have pushed their ten-year yield back above 7% and today Portugal has paid 2.29% in a eighteen month bill offering. This matters because the European Central Bank is supposed to be defending such issues via its famed, and indeed claimed, Outright Monetary Transactions.

Indeed even the IMF seems to be losing faith a bit, as these excerpts from a staff paper publicized on Tuesday show:

We see that fiscal policy can have powerful short-run effects on the economy when economic conditions resemble those that have prevailed in many advanced economies over the last few years.

New research has also raised doubts about the pre-crisis evidence that fiscal contractions can have an expansionary effect on output.

To use their own phrase: I can feel a change of track and indeed tack coming…

This article was written by Shaun Richards and originally published in Mindful Money under the title: What now for Portugal and its economy? Another IMF mea culpa?

Tags: European Central Bank , European Commission , International Monetary Fund , Portugal economy , Wolfgang Schauble
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