The governor of Portugal’s central bank, Carlos Costa, talks to Peter Wise about the how country’s economy is making up for lost time.

Carlos Costa

Carlos Costa

Q: Portugal still lags behind many of its European peers in terms of gross domestic product [GDP] per capita and living standards. Is the country doing enough to catch up?

A: In 2018, the Portuguese economy recorded its fifth consecutive year of expansion. In recent years, economic growth has been slightly above the euro area average, allowing some convergence gains in terms of real GDP per capita. Moreover, in the past decade exports increased markedly [about 10 percentage points of GDP] and the private sector has registered a significant deleveraging process. However, an increase in productivity is missing. Indeed, the increase in output in the current expansion has essentially reflected employment growth.

Positive developments, such as the reforms implemented under the adjustment programme and the considerable improvement in workforce skills, have not been reflected in increased productivity. This means there are other factors we need to care about, namely company organisation, management quality and embedding innovation processes.

Q: What reforms do you see as most important for ensuring the sustained growth of the Portuguese economy?

A: Despite some favourable developments over the past few years, driven by a more benign environment, long-term growth still faces numerous challenges. One relates to demographic developments, due to the expected decline of the working age population. This will have a persistent negative impact on potential output. We need to increase productivity in order to provide an increase in per capita income and create room for financing social cohesion mechanisms.

Increasing productivity is a key factor for increasing potential output and is closely related to the acquisition of new skills, with an increase in capital-per-worker levels and innovation capacity. It is important to put in place policies for continuously improving the quality of education, as well as public policies to support fundamental research and stimulate investment in the tradable sector.

The crisis has had a significant impact on the accumulation of capital, with negative repercussions for potential output. Reducing high levels of indebtedness, in parallel with creating conditions that allow investment to increase, both in quantity and quality, is essential for improving the current position.

Q: Is the banking sector now sufficiently resilient to withstand a global downturn or another external shock?

A: Over the past few years, the Portuguese banking system has evolved favourably in a range of relevant areas. Profitability continues to recover amid lower impairment losses on loans and increasing operational efficiency. Non-performing loans continue to decline, while impairment coverage ratios have continued to increase. The liquidity position remains at comfortable levels.

The resilience of the banking sector has improved, particularly when compared with the situation prior to the international economic and financial crisis. However, it remains vulnerable to the evolution of the economy, namely low potential growth, and the international environment.

Q: What lessons has Portugal learned from the European sovereign debt crisis?

A: When an adjustment programme has to be negotiated, authorities need to ensure ownership of the programme and a fair distribution of costs across society to create a collective sense of purpose. The reaction of the tradable sector, in particular exports, is crucial for rebalancing the external accounts and mitigating the impact of lower domestic demand on the non-tradable sector.

Safeguarding confidence in the banking sector and preserving regular financing of the economy – that is, financial stability – is also a key factor for avoiding a credit crunch and a deeper economic recession.

Programme goals are always short-term by nature. Adjustment is only sustainable if there are structural and institutional changes that prevent the recurrence of the conditions that have led to the need for adjustment. The authorities need to create conditions to promote an increase in productivity and to support a rise in potential output and employment. This is necessary to absorb both headline and hidden unemployment and preserve social cohesion.

Q: In the current climate of economic uncertainty, what do you see as the main risks facing the Portuguese economy?

A: The main risks are related to the possibility that the recent loss of momentum in the euro area economy – where Portugal’s major export markets are concentrated – could reflect more persistent factors. Others risks include the increase in protectionist policies, the intensification of geopolitical tension and a more marked deceleration in the Chinese economy.

The Portuguese economy could also be exposed to the risks associated with potential financial market turmoil and heightened tensions in euro area sovereign debt markets. Increased uncertainty worldwide threatens business confidence and may lead to the postponement of investment.


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