OECD Economic Surveys: Portugal 2023

Executive summary

The strong recovery has decelerated

High inflation and weak global economic conditions have slowed down growth. Despite renewed fiscal support to cushion the impact, household disposable incomes and firm profit margins have yet to recover fully. Implementing the ambitious Recovery and Resilience Plan (RRP) and ensuring fiscal sustainability are key to a sustained recovery.

High energy and food prices, supply disruptions and renewed uncertainty, especially since Russia’s war of aggression against Ukraine, will lower growth (Table 1). The war is affecting energy costs and raising uncertainty. This is holding back consumer spending and delaying firms’ investment and hiring decisions. The RRP disbursements, including EU grants worth EUR 14 billion, and fiscal support are buffering these shocks and will support growth once energy prices stabilise.

Table 1. The recovery has slowed

% change unless noted	2022	2023	2024
Gross domestic product	6.7	2.5	1.5
Private consumption	5.8	0.6	1.0
Gross fixed capital formation	3.1	3.1	4.2
Exports of goods and services	16.6	8.0	2.6
Current account balance (% of GDP)	-1.3	2.9	3.4
Employment	2.0	0.5	0.4
Harmonised consumer price index	8.1	5.7	3.3
Harmonised core price index	5.0	4.7	3.4
Fiscal balance (% of GDP)	-0.4	-0.1	-0.1
Government gross debt (Maastricht definition, % of GDP)	113.9	106.2	102.9

Source: OECD Economic Outlook 113 (database).

Temporary fiscal support has been extended to cushion the inflation shock. Electricity, gas and fuel price subsidies have been raised, alongside social transfers and temporary energy tax cuts, some of which are targeted to low-income households. To maintain strong incentives for energy savings and the green transition, it will be important to increasingly target support to the most vulnerable households and phase out energy support measures.

Strong revenues from the rebound in activity and surging prices have improved the budget balance. The public debt ratio to GDP has fallen and Portugal’s relatively long debt maturity structure and the rollover of high-interest bonds are containing financing costs in the short term.

Inflation reached historical highs in 2022 as supply pressures broadened. Large increases in energy and food prices drove inflation to the highest level in over a quarter-century. Capacity use and input costs remain high. Yet, headline and core inflation started to decline in late 2022 (Figure 1).

Figure 1. Headline inflation has eased from historical highs

Contributions to annual headline inflation, April 2023

Source: OECD, Consumer Price Indices (database).

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Wage growth has picked up following the increase in inflation. Workers whose skills are in high demand, such as in the ICT and construction sectors, are experiencing stronger wage growth. The minimum wage increased by 7.8% in 2023 and is set to increase by 6.6% in 2024. This will support wage growth and the real incomes of many households, provided that the high level of employment of the recent past endures.

Bank lending to households and businesses has slowed and the quality of loan portfolios should continue to be watched closely. Gross household debt, mostly housing loans, was 90% of gross disposable income in 2022. Households are vulnerable to rising interest rates, with 89% of mortgages subject to variable rates. Risks surrounding corporate loan portfolios are also likely to rise with higher interest rates. Restructuring or insolvency processes have increased from a low level, and the planned implementation of a new insolvency framework has strong potential to support medium-term growth, especially in combination with efforts to accelerate judicial proceedings.

Efficient public spending is key for fiscal sustainability and growth

Public debt relative to GDP has declined below its 2019 level, although it remains high. More efficient spending will be key to face mounting fiscal pressures from population ageing and strong investment needs, notably to support the green and digital transitions.

The RRP includes reforms and investments with strong potential to support growth and more effective public sector management. Implementation has started, but supply-side disruptions, inflation, the size of the planned investments and the ambitious timeline present challenges. A rapid execution of projects should boost investment.

Looking ahead, Portugal needs to design and implement a credible and transparent medium-term fiscal consolidation strategy. Over the past decade, underinvestment in education, health and infrastructure has weighed on potential growth (Figure 2). Rising pension entitlements have outpaced other social expenditures, while the low level and coverage of minimum income benefits hold back progress on reducing poverty. Tax expenditures amounting to 6.2% of GDP often fail to support long-term growth, including many reduced value-added tax rates.

Figure 2. Pension and debt costs leave little space for pro-growth and inclusive spending

Public expenditure in % of GDP, 2015-2020

Source: OECD (2023), National Accounts Statistics (database).

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Improvements in fiscal governance would help to better prioritise public spending and ensure cost-effective investments. The modernisation of the budget framework, including the implementation of performance budgeting, is crucial to ensure an efficient use of public funds. The full implementation of the 2015 Budget Framework Law and of new accounting standards, one of the objectives of the RRP, needs to accelerate. The implementation of regular spending reviews should also help to shift spending to more growth-enhancing uses. The implementation of the national anti-corruption strategy for 2020-24 has made significant progress, and efforts need to continue to alleviate corruption risks and better monitor lobbying activities.

A sustained recovery will require tackling long-standing challenges

Potential growth and productivity gains have declined. Skill shortages have emerged and the working-age population is set to decline. Low investment weakens productivity and firms’ ability to seize new opportunities from the digital and green transitions.

Productivity growth will be key to improve future living standards (Figure 3). Micro firms account for close to 40% of business employment, and their limited management skills and low investment have held back productivity gains, while increasing R&D support did not generate the expected increase in innovation. Streamlining complex administrative processes as part of the public sector’s digitalisation efforts can improve the business environment. Reviewing regulations in professional services and retail trade will reduce costs and improve productivity for enterprises. Strengthening active labour market policies that focus on smaller firms, such as pre-screening candidates for vacancies, would improve the match between jobseekers and employers. Improving counselling to guide student’s study choices and adults’ reskilling and upskilling decisions would better align skill development with labour market needs.

Investment in the green transition should continue to reduce greenhouse gas emissions and strengthen climate resilience, in line with Portugal’s carbon neutrality goal. Strengthening carbon pricing, including by removing distorting tax benefits, while protecting vulnerable groups, and gradually tightening regulations on the use of fossil fuels and energy efficiency can provide policy certainty. This will be crucial to guide investments and productive capacities through this extended transition. Making buildings more energy efficient also promises large energy savings but requires a new mix of regulation, grants and loans, as well as sizeable upfront investments.

Figure 3. Strengthening productivity is key to long-term growth

Average annual growth in GDP per hours worked

Source: OECD Productivity indicators (database).

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Recent increases in employment need to continue for Portugal to achieve more inclusive growth. Despite recent progress, 17% of workers and 59% of 15–24-year-olds were on temporary contracts in 2021. Enhancing the balance of protection across contract types by continuing efforts to restrict the use of temporary contracts and reducing the cost of dismissals would allow more workers to move into permanent contracts. The authorities should also closely monitor the effects of the planned increases in the minimum wage and, if needed, consider reducing employer social security contribution for low-wage workers to mitigate the impact of increases in labour costs.

Reforms are needed to strengthen the health system

Health gains have been impressive over recent decades and life expectancy is now amongst the highest in the OECD. At the same time, structural challenges include staff shortages, weak investment, an ageing population and high out-of-pocket payments. Improving spending efficiency and strengthening primary care and prevention would be ways to address these challenges.

The government has initiated key reforms for the health sector. The RRP and the 2022 framework law for the universal National Health Service reforms aim at moving away from a largely hospital-based system to one that will better integrate primary, community and long-term care. Effective implementation will be key to manage the rising impact of population ageing (Figure 4). Healthcare governance reform, also in the RRP, financial reporting and management should be based on sound accounting standards and multi-annual budgets, balancing medium-term health priorities with available fiscal space.

Investment spending and remuneration in the healthcare sector will have to rise. Waiting times are long, with complementary private insurance giving higher-income households better access to private providers. Past underinvestment in buildings and equipment is slowly being corrected but will take time to overcome fully. Long hours and low wages in the public sector have made it increasingly difficult to attract and retain medical staff.

Figure 4. Ageing will put pressure on the health system

Projected change in public health spending, % of GDP

Source: EC (2022), The 2021 Ageing Report: Economic and Budgetary Projections for the EU Member States (2019-2070).

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Promoting prevention and cost-efficient behaviour through primary care providers will become a rising priority. Spending on prevention amounts to less than 2% of health spending. Around 12.8% of the population is not registered with a dedicated general practitioner and the excessive use of emergency rooms drives up costs without promoting better health outcomes. In addition, the organisation of primary care is fragmented with various public care centres and payment schemes that fail to encourage a systematic follow-up of patients from disadvantaged groups. Expanding the number of general practitioners and streamlining the different payment schemes for primary care centres would improve both access and quality.

 

MAIN FINDINGS	KEY RECOMMENDATIONS
Improving macroeconomic policy and fiscal policies
The fiscal stance is estimated to have been broadly neutral in 2022 as the unwinding of COVID-19-related measures was offset by support to households and firms in the face of high inflation. Although some fiscal support to households and firms has been extended in 2023, fiscal policy is set to tighten.	Tighten the fiscal policy stance, including through increasingly targeting fiscal support towards the most vulnerable households and gradually phasing out energy support measures.
Public debt has been on a declining trend for years and is now below its 2019 level. In light of mounting ageing costs, however, the current debt level remains high, while investments in health, education and infrastructure have been low.	Continue to lower public debt, by developing a medium-term strategy to improve the structure and efficiency of public spending.
Social expenditures have increased rapidly over the years, in contrast to investment in infrastructure, education and health. Heterogenous accounting standards across public entities do not allow for assessing the effectiveness of some policies.	Carry out systematic, regular spending reviews, including in the health sector, to rationalise public expenditures and improve their efficiency. Roll out new accounting standards and develop performance budgeting.
Numerous tax expenditures reduce public revenues and in some cases the evidence of their effectiveness is weak.	Reduce tax expenditures, notably those that do not target low-income households or substantially raise compliance costs.
A large share of outstanding credit is subject to variable interest rates and rising interest rates are reducing households’ and firms’ debt-servicing abilities. The authorities eased the conditions for mortgage restructuring and introduced interest rate subsidies for low-income households.	Closely monitor the quality of bank credit and the impact of the measures to reduce debt service costs for low-income households.
The social safety net is fragmented and some programmes have low benefit take-up. The government plans to streamline social benefits.	Consolidate the different support programmes for low-income households and simplify eligibility conditions, while considering an overall increase in the level and coverage of minimum income benefits. Permanently expand social protection to non-standard workers.
Boosting employment and productivity
The use of temporary labour contracts remains high and they are often used for relatively long periods, while costly legal processes add to the cost of hiring on permanent contracts.	Enhance the balance of protection across contract types by continuing efforts to promote the use of permanent contracts and reducing the cost of dismissals.
The minimum wage as a share of the median wage is among the highest in the OECD, and planned increases will further add to labour costs.	Closely monitor the effects of the minimum wage on employment. Reduce employer social security contributions for low-wage workers to mitigate the impact of labour cost increases.
Upskilling and reskilling will be key to continue to boost workers’ skills and productivity.	Better align the supply and demand of skills to current and future labour market needs, while improving counselling to guide students’ study choices and adults’ reskilling and upskilling decisions.
A large share of small firms has weak management and human resources.	Strengthen active labour market policies targeting smaller firms, such as pre-screening programmes for job vacancies by public employment agencies.
Competitive pressures are weak in some sectors. The Recovery and Resilience Plan foresees a review of regulations that remain high in some key professions, such as legal services.	Lower entry barriers by streamlining regulations, prioritising professional services and the retail sector. Further expand the use of Regulatory Impact Assessments for new regulations and undertake sectoral reviews of existing policies and their competition impact.
The national anti-corruption strategy has made significant progress, but indicators point to further room for improvement.	Continue efforts to prevent and fight corruption and introduce a permanent lobbying registry.
Improving health outcomes
The budget for the National Health Service has repeatedly been set below the cost of providing health services, hindering incentives for efficiency gains and accountability.	Produce multi-annual budgets for the National Health Service, balancing medium-term health priorities with available fiscal space.
Emergency rooms are overused due to difficulties in accessing general practitioners, driving up costs without better outcomes.	Ensure that every patient is registered to a dedicated general practitioner.
Despite the development of some integrated care delivery services and the planned roll-out of local health units, the coordination between hospitals and primary care providers can be improved.	Move towards integrated care delivery between hospitals and primary care providers.
Supporting the transition towards a green and sustainable economy
Responding to rising energy prices, the government froze planned carbon tax increases at the end of 2021. Carbon prices vary across sectors and fuels.	Gradually increase environmental taxes for sectors outside of the EU Emissions Trading System (ETS), including excise taxes on fuels, while protecting low-income households.
The building stock is in poor condition. Current policies to boost energy efficiency are complex and not fit for purpose.	Accelerate the retrofitting and renovation of buildings, using a mix of regulation, grants and loans.