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June 17, 2020

PORTUGAL: Trying to stay the course

BY Antonio Barroso

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Last week’s announcement by Mario Centeno that he would step down as finance minister will have a limited impact on the government’s economic policy outlook. His replacement by Secretary of State for the Budget Joao Leao signals Prime Minister Antonio Costa’s continued concerns about retaining fiscal credibility, especially in the context of the Covid-19 crisis. Moreover, the minority government led by the Socialist Party (PS) will still be able to rely on the support of the opposition parties in parliament, at least until the time comes for Costa to make difficult economic choices.

New Finance Minister Joao Leao is an MIT-trained economist who played a crucial role in engineering Portugal’s first budget surplus since 1975. As secretary of state, he was responsible for controlling expenditure across the different ministries to ensure the yearly deficit targets would be reached. He is a technocrat close to the PS but is not a party member.

Leao’s profile suggests Costa does not want to deviate an inch from the strategy he has followed since he came to power in 2015. As previously explained, the Eurozone crisis had cost the PS its credibility as an economic manager. For Costa, keeping the deficit under control is a cornerstone of the ruling party’s ability to win elections. Having a reliable interlocutor with markets is also crucial in this regard, especially given the fallout from Covid-19. The supplementary budget for 2020 currently being discussed in parliament expects the deficit to reach 6.3% of GDP and public debt to rise to 134% of GDP this year.

Till adjustment do them part

Meanwhile, the government is still able to pass legislation in parliament despite lacking a majority. Two factors explain Costa’s strength. The first one is that his government remains quite popular, especially considering its successful management of the pandemic so far. According to opinion polls, the ruling PS is currently 20 percentage points ahead of the main opposition Social Democratic Party (PSD). Therefore, there is little incentive for the other parties to generate instability by voting against the government.

The second factor relates to the government’s policies to counter the economic fallout from Covid-19. The amended 2020 budget includes a EUR 1bn increase in unemployment benefits and family allowances, extra support for short-term work schemes, and a rise in the budget of the National Health Service. As a result, the other parties – particularly the PSD – are wary of opposing widely popular measures. This equilibrium is unlikely to change until the government is forced to implement fiscal consolidation measures to reduce the deficit, which is unlikely to happen this year.

While politics are unlikely to represent a significant source of risk for now, things could change quickly, given the uncertainty stemming from Covid-19. One short-term signpost to watch is the evolution of the pandemic, as the country has registered several localized outbreaks in the last few hours. Another signal is the controversy surrounding the potential nomination of Mario Centeno to become the next governor of the central bank of Portugal. The opposition parties have agreed to introduce a bill that could eventually block his appointment, which would entail a severe blow for Costa (a final vote on the draft law is expected on 3 July).

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