Portugal: economic
adjustment and challenges
ahead
Carlos da Silva Costa • Governor
Madrid, November 10 th 2015
Forum Europa
Outline
I. Adjustment of the Portuguese economy
II. Lessons to be drawn
III. Challenges ahead
2•
Outline
I. Adjustment of the Portuguese economy
II. Lessons to be drawn
III. Challenges ahead
3•
I. Adjustment of the Portuguese
economy
What has caused the crisis?
Imbalances
Private sector overindebtedness
and excessive bank
leverage
Unsustainable public
finances
Anemic economic
growth and low
productivity
4•
In the context
of ….
Global Crisis
Shift in the
assessment of
risk levels
have led to:
Concerns
about
the
sustainability
of public
finances and
the viability
of banks
… and ultimately
to
Sudden stop
In foreign
private
lending
I. Adjustment of the Portuguese
economy
The size and duration of an economic adjustment
depend on:
i) the size of the initial imbalances;
ii) the amplifiers in the economy;
iii) how rapidly policy and the economy
respond.
5•
I. Adjustment of the Portuguese
economy
The size and duration of economic adjustment
depend on:
i) the size of the initial imbalances;
ii) the amplifiers in the economy;
iii) how rapidly policy and the economy
respond.
6•
I. Adjustment of the Portuguese
economy
i)
Initial imbalances
•
Too much public and private debt, borrowed from abroad,
mostly intermediated by the banks
Indebtness in % of GDP
External account in % of GDP
(current account+ capital account)
400
0,0
350
-2,0
Households
Non financial corporations
300
General Government
-4,0
250
-6,0
200
150
-8,0
100
-10,0
50
7 • Source: Banco de Portugal
2010
2009
2008
2007
2006
2005
2004
2003
2010
2002
2008
2001
2006
2000
2004
1999
2002
1998
2000
1997
1998
1996
1996
1995
-12,0
0
I. Adjustment of the Portuguese
economy
i)
Initial imbalances
•
140.000
Banks have focused on short-term results
Loans to non-financial corporations
(€ millions)
120.000
- Overleveraged
- Underestimation of credit risk
- Concentration of credit in the nontradables sector (construction, retail)
- Significant distribution of dividends
Non-Tradables
Tradables
100.000
80.000
Contribution non-performing loans in 2012
Non-financial corporations
60.000
40.000
20%
20.000
18%
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
0
Seven largest banking groups
(EUR million)
20000
16569
37,5%
35,2%
14%
12%
Profits
Dividends
15000
16%
Payout ratio
10000
10%
Increase in credit
to firms with nonperforming
in
Acréscimo
de crédito loans
das SNF com
incumprimento
registado no final de
2012
2012
% das empresas of
com aumento
Percentage
firms de
crédito
with credit increase
8%
6%
6151
5414
4%
5000
1912
253
0
-3,6%
-5000
2%
0%
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
Nota: o gráfico totaliza 100% para cada série (1997 a 2012)
-7371
-10000
8 •2000-2007
2008-2010
Source: Banco de Portugal
2011-2014
Note: each series totals 100% in the chart.
I. Adjustment of the Portuguese
economy
i)
Initial imbalances
•
Debt has been mainly used to finance consumption and
investment in non-tradable sectors
Composition of expenditure
(average rate of real growth)
GDP
Private
Public
GFCF
consumption consumption
Exports Imports EA GDP
1996-2010
1,9
2,1
2,4
1,7
4,4
4,6
1,7
1999-2010
1,3
1,7
1,9
-0,4
3,7
3,2
1,6
1996-2001
3,7
3,6
3,9
7,0
5,9
7,8
2,7
2002-2007
1,1
1,5
1,7
-1,4
5,2
3,7
2,0
2008-2010
-0,3
0,5
0,6
-2,7
-0,3
0,1
-0,7
9 • Sources: INE and AMECO
I. Adjustment of the Portuguese
economy
i)
Initial imbalances
•
Inefficient allocation of resources has pushed wages and costs
upwards, harming competitiveness
Effective exchange rate deflated by relative
unit labor costs
Productivity and wages
(total economy, real rate of change)
6
140
Portugal
Spain
5
130
Ireland
Germany
4
120
France
Greece
3
110
2
100
1
90
0
80
Produtividade
do trabalho
Labour productivity
Remunerações
Compensationpor
pertrabalhador
employee
70
10 • Sources: AMECO, Banco de Portugal and INE
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
1996
60
-2
1995
-1
I. Adjustment of the Portuguese
economy
i)
Initial imbalances
•
Thus, despite huge capital inflows, actual growth was very low and
potential growth declined throughout the period
Gross Domestic Product
(real growth rate, 1999=100)
Potential output growth
4,0
160
Portugal
150
Spain
3,0
Germany
France
140
Ireland
Greece
130
2,0
1,0
Italy
0,0
120
-1,0
110
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
HP
11 • Sources: AMECO, Banco de Portugal and INE
BK
CF
CD
CES
2017
2015
2013
2011
2009
2007
2005
2003
2001
1999
100
1997
1995
-2,0
I. Adjustment of the Portuguese
economy
The size and duration of economic adjustment
depend on:
i) the size of the initial imbalances;
ii) the amplifiers in the economy;
iii) how rapidly policy and the economy
respond.
12 •
I. Adjustment of the Portuguese
economy
ii) The amplifiers
•
Close link between domestic banks and the sovereign – fears about
the solvency of the sovereign have raised fears about the solvency of
the banks in a feedback cycle
Outstanding amounts of monetary policy
operations of Portuguese banks
(€ billions)
60
50
40
In May 2010 the
Portuguese banks’
financing from the ECB
jumped €18 billion
• At a first stage access to
capital markets by banks
was replaced by
Eurosystem funding and
banks increased the public
debt share in their
portfolios.
30
20
10
0
-10
MRO
LTRO
Deposit facility
-20
Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12
13 • Sources: Banco de Portugal and INE
• At a second stage,
sovereign funding was
ensured by official loans
under the financial
assistance programme. The
programme included a
facility dedicated to the
capitalisation of the
banking system.
I. Adjustment of the Portuguese
economy
ii) The amplifiers
•
Distortions in the labour market have resulted in an “overshoot” of
unemployment – with further negative impact on domestic demand and
hindering fiscal consolidation.
Unemployment rate and contribution by duration
20
18
Long-term unemployment (more than
12 months)
Unemployment (les than 12 months)
16
Unemployment rate
• Increase in unemployment
has exceeded what would be
expected taking into account
the drop in economic activity.
• This has in part reflected the
transition to a more exportoriented economy.
14
12
10
• The labour shedding during
the crisis was accelerated due
to the high share of temporary
workers.
8
6
4
2
0
2006
2007
2008
2009
2010
14 • Sources: Banco de Portugal and INE
2011
2012
2013
2014
2015
I. Adjustment of the Portuguese
economy
The size and duration of economic adjustment
depend on:
i) the size of the initial imbalances;
ii) the amplifiers in the economy;
iii) how rapidly policy and the economy
respond.
15 •
I. Adjustment of the Portuguese
economy
iii) How rapidly policy and the economy have responded
• Sizeable adjustment of imbalances
- Net lender position (improvement of around 12 p.p in the current
and capital account between 2010 and 2014)
- Weight of exports in GDP increased by 10 p.p. between 2010 and
2014
Current and capital account
(% of GDP)
Weight of exports in GDP
percent
6.0
50
4.0
2.0
45
0.0
40
-2.0
35
-4.0
30
-6.0
25
-8.0
20
-10.0
15
-12.0
10
-14.0
2008
2009
2010
2011
2012
2013
2014 2015 (p)
Goods and services account
Primary income account
Secondary income account
Capital account
16 • Sources: Banco de Portugal and INE
5
0
2008 2009 2010 2011 2012 2013 2014 2015
(p)
I. Adjustment of the Portuguese
economy
iii) How rapidly policy and the economy have responded
• Sizeable adjustment of imbalances
-
Strong and unprecedented fiscal consolidation effort
A significant part of the increase in debt in the period 2009-2014 was
due to the reclassification of entities that were previously outside the
general government and to the support to financial institutions
The composition of the fiscal adjustment
Percentage points of GDP
Evolution of General Government Gross Debt
Percent of GDP
3,0
2,0
1,0
0,0
-1,0
-2,0
-3,0
Contribution from revenue
-4,0
Contribution from expenditure
-5,0
Change in primary balance
-6,0
2009
2010
2011
2012
17 • Sources: Banco de Portugal and INE
2013
2014
Note: Chart reproduced from the IMF Country Report No. 14/306, October
2014
I. Adjustment of the Portuguese
economy
iii) How rapidly policy and the economy have responded
• Restructuring of the economy
- Reallocation of resources towards exports and more productive firms
Evolution of GDP composition
(index: 2008Q1=100)
GVA and GVA per worker
(index: 2008Q1=100)
115
130
120
110
110
100
105
90
80
100
70
60
95
50
2008
2009
2010
2011
GDP
Public consumption
Exports of goods and services
2012
2013
2014
Private consumption
GFCF
18 • Sources: Banco de Portugal and INE
Gross Value Added
Gross Value Added per worker
2015
90
2008
2009
2010
2011
2012
2013
2014
2015
I. Adjustment of the Portuguese
economy
iii) How rapidly policy and the economy have responded
• Strengthening of the banking system
- Recognition of impairments (about €40 billion in the 2008-2014 period)
- Increased solvency and liquidity
- Orderly deleveraging process, consistent with private sector deleveraging
Core Tier 1 ratio (until 2013) and CET 1 ratio (2014)
End of period
19 • Source: Banco de Portugal
Loan-to-deposits ratio (%)
End of period
I. Adjustment of the Portuguese
economy
iii) How rapidly policy and the economy have responded
• Latest macroeconomic projections by Banco de Portugal
- GDP growth slightly above the euro area in 2015
- Gradual recovery of domestic demand and strong export dynamics
- Sustained correction of macroeconomic imbalances
Projection October 2015
(annual rate of change, per cent)
Gross Domestic Product
Weights
2014
2015(p)
100.0
0.9
1.7
65.9
18.5
14.9
99.6
40.0
39.7
2.2
-0.5
2.8
2.2
3.9
7.2
2.6
0.1
6.2
2.5
6.1
7.9
2.0
1.3
2.3
1.7
-0.2
0.5
Private Consumption
Public Consumption
Gross Fixed Capital Formation
Domestic Demand
Exports
Imports
Current plus Capital Account (% of GDP)
Trade Balance (% of GDP)
Harmonized Index of Consumer Prices (HICP)
Note: (p) – projected
Sources:
INE and
Banco de Portugal
andBanco
INE
20 • Sources:
de Portugal.
Outline
I. Adjustment of the Portuguese economy
II. Lessons to be drawn
III. Challenges ahead
21 •
II. Lessons to be drawn
First lesson
An unsustainable economic policy has huge costs as it
requires not only a cyclical adjustment but also a structural
adjustment which is typically more painful and prolonged in
time.
• Resources need to be reallocated from the nontradable to the tradable sector.
• Resources misallocation eventually leads to a
significant waste of capital and to a rise in long-term
unemployment.
22 •
II. Lessons to be drawn
Second lesson
In the decision making process, policy makers must consider
future implications of the various options at the macro level
and the micro level.
Inconsistent policies generate inconsistent responses from
economic agents, particularly in terms of investment,
resulting in high (and often irreversible) costs to individuals,
families and to society.
23 •
II. Lessons to be drawn
Third lesson
Past experience reveals that self-regulation and self-discipline
of the financial markets do not work. This is particularly so in
a context where incentives towards the short term
predominate (credit volume is more important than credit
quality; bonuses linked to the volume of credit; underprovisioning of credit risk; significant dividend distribution):
• Strengthen financial market regulation to reduce risks.
• Adopt a more intrusive, forward-looking and risk-focused
micro-prudential supervision approach (create buffers to
absorb losses in adverse situations).
24 •
II. Lessons to be drawn
Fourth lesson
From the point of view of a central bank that aims at
safeguarding price stability and financial stability:
• Past experience reveals that disturbances to price and
financial stability are the mirror of decisions taken by
economic agents.
• Macro-prudential policy is crucial to prevent behaviours
that at the aggregate level have the potential to inflict
serious costs to the real economy in the future.
25 •
Outline
I. Adjustment of the Portuguese economy
II. Lessons to be drawn
III. Challenges ahead
26 •
III. Challenges ahead
Continue fiscal consolidation
• Fulfilling the Fiscal Compact ensures debt sustainability
• The quality of the policy measures is crucial to improve economic growth
Fiscal balance required to reduce the debt ratio by 1/20 of the
difference relative to the reference value
Public debt ratio to GDP
130%
Nominal GDP growth
rate
1
Overall balance
Primary balance
1,0%
2,2%
7,0%
1,5%
1,6%
6,4%
2,0%
1,0%
5,8%
2,5%
0,3%
5,1%
3,0%
-0,3%
4,5%
3,5%
-0,9%
3,9%
4,0%
-1,5%
3,3%
Note: The shaded cells indicate the different combinations of nominal GDP growth rate where
the overall balance that fulfils the debt criterion is higher than the MTO.
27 • Source: Banco de Portugal
For a debt ratio of 130 per
cent and 2.5-3.0 per cent
nominal GDP growth, we
need to ensure balanced
public accounts.
III. Challenges ahead
Continue private sector deleveraging
•
•
Indebtedness levels remain above the euro area average
They affect consumption and investment decisions of the most
indebted agents
Financial debt in Portugal: households and nonfinancial corporations (% GDP)
160
140
120
100
80
60
40
Households - Portugal
Corporations (non-consolidated) - Portugal
Corporations (consolidated) - Portugal
20
28 • Source: Banco de Portugal
2015Q1
2014Q1
2013Q1
2012Q1
2011Q1
2010Q1
2009Q1
2008Q1
2007Q1
2006Q1
2005Q1
2004Q1
2003Q1
2002Q1
2001Q1
2000Q1
0
1999Q1
2
III. Challenges ahead
Improve banking sector profitability
•
Assess the viability and sustainability of Business Model
― Improve cost to income ratio
― Adapt business models to lower demand for credit, Banking
Union and digital economy
Improve Governance and Risk Management
•
ROA & ROE Portuguese ranking system
Value in the period
10
7.7
0
1
6.3
5
%
3
0.5
-0.4
-0.3
0.5
0.5
-5
-0.8
-10
-5.5
-6.3
-15
-0.5
-1.3
-1
-11.7
-1.5
-1.8
-20
-19.2
-25
0
-26.7
-30
-2
-2.5
2010
2011
2012
2013
Return on Equity (ROE)
2014
1H2014
Return on Assets (ROA) - rhs
Note: Return is measured by earnings before taxes and minority interests.
29 • Source: Banco de Portugal
1H 2015
III. Challenges ahead
Improve long-run growth
4
•
Allocate savings in line with the optimisation of returns
•
Increase investment in physical and human capital
•
Upgrade firms position in the value chain
•
Improve the quality of management
•
Strengthen attractiveness of the economy for FDI
Improving the long-run growth of the Portuguese economy is also
crucial to alleviate the costs of the ongoing adjustment of
accumulated imbalances .
30 •
Thank you.
Forum Europa