Economy and Trade
Bordered by the Atlantic Ocean to the south and west, and Spain to the north and east, Portugal has been a member of the European Union since 1986, and was in the first wave of countries to enter the eurozone in 2002. Living standards in Portugal are still well below those in other European countries. Agriculture remains an important sector, with 75% of production exported. Portugal is a major producer of cork, wine, olive oil, and timber, and it also has a large fishing industry. However, the European Union’s expansion into Eastern Europe has erased Portugal’s competitive advantage, particularly in the manufacturing and agriculture sectors. The government is now focused on encouraging the growth of the high-tech sector, and is investing heavily to upgrade the country’s infrastructure, particularly its transport links. Trade is geared toward the European Union—Spain, Germany, France, Italy, and the United Kingdom are Portugal’s principal trading partners. Portugal depends heavily on fuel imports to meet its energy needs.
Economic Policy over 12 Months
Government economic policy in recent years has focused on improving the fiscal position, and addressing Portugal’s competitive gap. The economy boomed in the run-up to euro entry in 2002, as real interest rates plummeted; investment, consumption, and wages surged; and fiscal policy loosened.
However, the boom quickly evaporated, and Portugal was left with wide current account and fiscal deficits, together with high household, corporate, and government debt. It also faced sanctions by the European Union for breaching the fiscal rules applied to eurozone members. The government has since focused on reducing the deficit and public debt. The European Union requires that Portugal and other countries using the euro keep their budget deficits at 3% of GDP or less, and public debt to lower than 60% of GDP.
However, the government’s efforts to offset the impact of the global financial crisis have undone its attempts at good housekeeping. The budget deficit rose to 9.3% of GDP in 2009, and in 2010 fears have developed that Greece’s troubles in the international financial markets will trigger a domino effect, toppling other weak members of the eurozone, such as the so-called PIIGS—Portugal, Ireland, Italy, Greece, and Spain—all of whom face challenges in rebalancing their books.
Despite arguing that the comparison with Greece is unfair, by April 2011, the Portuguese government was forced to follow the Irish and Greek governments in securing a bailout from the European Union and the International Monetary Fund (IMF). After months of resisting increasing bond market pressure, on April 7 the Portuguese government began negotiations which resulted in an €80 billion bailout. Portugal’s 2010 budget deficit was around 8% of GDP, while its total public sector debt amounted to 90% of GDP. The government tried to convince the markets that it had adopted a sufficiently stringent set of austerity measures to contain and reduce its deficit, but a second round of austerity measures, designed to reinforce the message, was thrown out by the government’s coalition partner, leaving the government no choice but to ask for help. Ratings agency Moody’s had signaled Portugal’s woes in advance by downgrading its debt from A1 to A3 in March 2011, and then again to Baa1 on April 5. The Portuguese government ran into more trouble when Moody’s downgraded its debt to “junk” (Baa2) on July 6. At the time of going to press (mid-July 2011) analysts were already talking about the probability of Portugal needing a second bailout.
For its part, the Portuguese government argues that its public debt (90% of GDP) is much lower than Greece’s (124%), while Lisbon, unlike Athens, has made determined efforts in the past to put its fiscal house in order. Furthermore, the government has implemented reforms to improve the economy, linking pensions to changes in life expectancy and introducing incentives for later retirement.
Furthermore, in March 2010 the authorities unveiled a fiscal consolidation strategy to bring the budget deficit below 3% of GDP by 2013. The authorities propose to achieve their consolidation goals through a combination of expenditure restraint and revenue-raising initiatives.
Part of Portugal’s long-term challenge is finding ways to improve its competitive position within the European Union. While Portugal’s relatively low labor costs acted as a magnet to foreign investors seeking to establish a European base during the 1980s and 1990s, the entry of Eastern European countries to the European Union in 2004 has removed that competitive advantage.
Economic Performance over 12 Months
The economy entered recession in the second half of 2008 and exited in the second quarter of 2009. However, despite this relatively early recovery, the economy still shrank by 2.7% overall in 2009. Despite a substantial rise in unemployment to 9.6%, wage growth remained brisk and, with productivity falling, unit labor costs rose further, undermining competitiveness.
Portugal has relied heavily on exports to its eurozone trading partners to boost economic growth in recent years. Portuguese household consumption and business investment have been depressed since a spending binge in the early 2000s led to the imposition of austerity measures and recession. However, an EU report published in April 2010 warned that the government might have to make further budget cuts (on top of those announced in March 2010) to reassure markets. The report added that Portugal was not attracting enough foreign investment and that it could no longer compete globally in labor-intensive industries, such as making clothing and leather goods.
Portugal’s financial system remains sound and well-supervised, according to the IMF. The organization said in January 2010 that the banking system weathered the global financial crisis relatively well, reflecting pre-existing strengths, such as limited exposure to toxic assets, the absence of a property bubble, retail-based business models, and a sound supervisory/regulatory framework. It added that while some vulnerabilities increased, the authorities took decisive steps to address these vulnerabilities, including raising the coverage limit for deposit insurance, instituting facilities to recapitalize banks and guarantee their borrowing, and recommending that all banks bring their Tier 1 capital ratios to 8%.
Support for Inward Investment and Imports
Investment promotion remains a high priority for the government, which has established the Agência Portuguesa de Investimento (API) to attract investment involving technology transfer in sectors such as information and communications technologies (ICT), biotechnology, and renewable sources of energy. For more information on the opportunities for foreign investors in Portugal, see the API website.
Portugal is part of the EU customs union. Decisions regarding quotas or customs suspensions to be applied to goods imported into Portugal are currently taken at a European level.
API publishes a guide to the tax system, which details all the tax exemptions that are available.
GDP growth: 1.4% (official, 2010)
GDP per capita: US$23,000 (2010 est.)
CPI: 1.1% (2010 est.)
Key interest rate: 1.5% (July 2011)
Exchange rate versus US dollar: €0.755 (2010)
Unemployment: 10.7% (2010 est.)
FDI: US$120.6 billion (2009 est.)
Current account deficit: −US$19.03 billion (2010 est.)
Population: 10,760,305 (July 2011 est.)
Source: CIA World Factbook except where stated