Economic forecast for Portugal

Economic growth has been slowing down in 2023 while the labour market has remained robust amid record high employment and activity rates. GDP growth is set to gradually recover over the forecast horizon and inflation is projected to moderate further, moving broadly in line with the euro-are average. Portugal’s general government balance is forecast to reach a surplus of 0.8% of GDP in 2023, to later narrow over the forecast horizon.

Growth slows down amid subdued domestic and external demand

After a strong start of the year, Portugal’s economic growth slowed down from 1.5% (q-o-q) in 2023-Q1 to 0.1% in 2023-Q2. On the side of domestic demand, both private consumption and investment contracted in 2023-Q2 reflecting the increase in interest rates and weak consumer and business sentiments. In the external sector, exports of goods also declined against the backdrop of subdued demand from trading partners, while exports of services continued to expand at a sound pace, helped mainly by tourism. According to the flash estimate, the economy worsened further in 2023-Q3, as GDP contracted by 0.2% (q-o-q). However, private consumption and investment picked up somewhat while the contribution from the external sector turned negative on the accounts of both goods and services. The growth rate in tourism slowed down substantially in the summer but daily flight statistics signal a slight re-acceleration in October.

Going forward, the weak external demand as well as increased interest expenses of households and companies are expected to keep economic growth subdued in the near term. However, the rise in households’ income along with the projected gradual recovery in global trade volumes and the progress in the implementation of the Recovery and Resilience Plan (RRP) are set to gradually improve the economic performance over the forecast horizon. On an annual basis, GDP growth is forecast at 2.2% in 2023, 1.3% in 2024 and 1.8% in 2025. In the external sector, the strong growth in tourism and the drop in energy prices improved substantially the trade balance until August 2023. The current account is projected to remain in positive territory over the forecast horizon, although imports are set to grow faster than exports in 2024 and 2025 in line with the projected recovery in private consumption and investment.

Employment keeps growing at sound pace

Despite the economic slowdown, employment growth increased from rates close to zero at the beginning of 2023 to 1.3% (y-o-y) in the summer months. The sectoral breakdown for 2023-Q2 shows that employment in tourism, construction and administrative services increased the most relative to a year earlier. Labour activity also improved, helped by a substantial rise in foreign workers. Both employment and activity rates reached record high levels while wages grew faster than inflation. After a temporary rise to 7.0% in January 2023, unemployment moved back on a downward path reaching 6.4% in August. The unemployment rate is projected to flatten over the forecast horizon in light of the subdued near-term growth outlook. In annual average terms, the unemployment rate is forecast at 6.5% in both 2023 and 2024 and at 6.4% in 2025.

Inflation moderates helped by energy prices

Headline inflation decreased for a third quarter in a row to 4.8% (y-o-y) in 2023-Q3 from a peak of 10.2% in 2022-Q4. According to the flash estimate for October, headline inflation slowed down further to 3.3% (y-o-y). Inflation excluding energy and food also followed a downward trend, but at a slower pace, as services prices, particularly for accommodation, were pushed up by the surge in foreign tourist visits and wage hikes. Energy prices continued to decline in annualised terms and the growth in food prices slowed down substantially. The strong wage growth, reported at 7.2% (y-o-y) in 2023-Q2, is projected to keep some pressure on services prices in the short term, but the overall moderation in headline inflation is set to continue. In annual average terms, inflation is projected to slow down from 5.5% in 2023 to 3.2% in 2024 and 2.4% in 2025, broadly in line with the euro-area average.

General government balance projected to turn positive in 2023

Portugal’s general government balance is projected to reach a surplus of 0.8% of GDP in 2023, from the deficit of 0.3% of GDP in 2022. The dynamism in government revenue is expected to continue in 2023, supported by a robust labour market, wage increases and the still high inflation. In turn, government expenditure growth is set to be contained, on the back of the complete phase-out of COVID-19 temporary emergency measures and the reduced net budgetary impact of energy support measures, forecast at 1.3% of GDP in 2023, compared with 2.0% in 2022.

The general government balance is projected to narrow to 0.1% of GDP in 2024 and 0.0% in 2025. Government revenue is expected to decelerate, partly driven by fiscal policy measures in direct taxes, and by the projected economic slowdown coupled with a moderation in inflation. Government expenditure is set to expand, with upward pressures on current spending expected to persist, notably on the public wage bill and social transfers. The net budgetary impact of energy measures is expected at approximately 0.7% and 0.6% of GDP, in 2024 and 2025, respectively. A limited increase in interest expenditure is projected over the forecast horizon. Public investment is set to continue expanding, amid the implementation of the RRP. Downside risks to the fiscal outlook are related to, among others, requests for financial rebalancing of public-private partnerships.

Driven by a favourable growth-interest rate differential and primary balance effect, Portugal’s public debt-to-GDP is expected to reach 103.4% in 2023, and further contract to 100.3% in 2024 and 97.2.% in 2025.