OECD Economic Outlook, Volume 2023 Issue 1

Portugal

Real GDP growth is projected to reach 2.5% in 2023 and 1.5% in 2024. The Recovery and Resilience Plan (RRP) should significantly boost public investment, though there are risks that implementation delays continue. Strengthening external demand will support exports, particularly of services. The employment rate will remain historically high and wages will accelerate. However, headline consumer price inflation of 5.7% in 2023 and 3.3% in 2024 will reduce purchasing power and weigh on consumption growth.

The implementation of the RRP is supporting growth and renewed support measures in 2023 are helping to smooth the inflationary shock on households’ purchasing power. While public debt has declined below its 2019 level, it remains the third highest in the EU. A strengthened fiscal framework and more efficient spending will help to address mounting spending pressures from an ageing population and strong investment needs. A timely implementation of the RRP will strengthen green infrastructure, skill acquisition and healthcare capacity, supporting sustainable growth, but could also slow the decline in inflation.

Growth is picking up

As energy and food prices remain high and interest rates continue to rise, growth in domestic demand has declined. Elevated consumer price inflation, which eased to 6.9% in the year to April, is reducing household purchasing power. Yet, RRP spending, fiscal support measures worth around 3.7% of GDP in 2023 and increasing activity in trading partners are supporting activity. GDP grew by 1.6% on a quarterly basis in the first quarter of 2023, significantly boosted by strong export growth. Consumer confidence has increased recently but remains subdued and the Bank of Portugal’s coincident private consumption indicator increased in April. Business confidence in services, retail and industry has been increasing, although from a low level. Despite an increase in the unemployment rate, historically-high employment rates, rising wage growth and government cash transfers are providing support to households.

Portugal: Inflation and investment indicators

Source: OECD Economic Outlook 113 database.

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Portugal: Demand, output and prices

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Elevated energy and food prices are raising costs for households and firms, although fiscal measures are providing some offset. Monetary and financial conditions are becoming less supportive. Increasing interest rates are rapidly raising mortgage payments, with around 90% of mortgages subject to rates fixed for up to one year, holding back household consumption and investment. The risk of energy supply shortages appears contained, with around 60% of electricity generated from renewable sources in 2022, gas imports arriving via ship and elevated storage levels.

Fiscal policy support will ease

Fiscal policy, including through the RRP, is supporting growth in 2023, but also adding to inflationary pressures, before becoming mildly restrictive in 2024. Spending from RRP grants is projected to increase from 0.3% of GDP in 2022, to 1.5% of GDP in 2023 and 1.3% of GDP in 2024, boosting public investment. Measures to help cushion the inflation shock are expected to reach 1.9% of GDP in 2022 and 3.7% of GDP in 2023. They include electricity, gas and fuel price subsidies, as well as social transfers, some of which are targeted to low-income households and families with children, an increase in pension payments, and temporary cuts in energy taxes and VAT. 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. The budget deficit is projected to ease to 0.1% of GDP in 2023 and 2024. A 7.8% increase in the minimum wage in 2023, and a further 6.6% rise set for 2024, as well as tax incentives for firms to raise wages will support household income. However, the foreseen rise in labour costs could hold back low-wage employment.

Growth will strengthen

GDP growth is projected to reach 2.5% in 2023 and 1.5% in 2024. The spending of European funds is significantly boosting public investment, but high uncertainty and rising interest rates will continue to weigh on business and housing investment. The projected acceleration in activity across trading partners will support exports. Despite buoyant wage developments, consumption growth will moderate as employment growth eases, elevated inflation continues to reduce purchasing power and rising interest rates raise debt-servicing costs. Fiscal measures will provide some offset to support the incomes of vulnerable households, but they will slow the decline in inflation. Headline consumer price inflation will moderate to 5.7% in 2023 and 3.3% in 2024 as energy and food prices stabilise. The phasing out of energy and inflation support and high nominal GDP growth will help lower public debt to around 103% of GDP in 2024 (Maastricht definition). Higher-than-expected employment or wage growth would support consumption yet would also fuel inflation. RRP spending could be implemented more slowly than projected, implying both lower growth and lower inflation, but the forthcoming updates could also accelerate the pace of disbursements.

Policies to tackle long-standing challenges will support a sustained recovery

Public debt relative to GDP remains high. More efficient spending and a strengthened fiscal framework are needed to help face mounting fiscal pressures from population ageing and strong investment needs. Temporary fiscal support to cushion the inflation shock should be gradually phased out. Gradually strengthening carbon pricing, and aligning prices across sectors and fuels, while protecting vulnerable groups will help reach ambitious climate goals. Reforms and investments under the RRP have a strong potential to support growth through more effective public sector management, green infrastructure and further skill acquisition. Ensuring the complete implementation of the RRP will maximise the benefits. Continuing to improve access to good-quality childcare would allow more women to enter the labour market and help reduce labour market disparities.