Six months after Ireland became the first country to exit an EU-IMF bailout programme, Portugal followed suit this week, announcing its intention to return to full market access without the help of a precautionary credit line.
Just six months ago, the idea of Portugal exiting its bailout unaided seemed unthinkable. But a steep drop in government bond yields, better-than-expected economic figures and a more benign market context allowed Portugal to stage a remarkable turnaround.
Despite official declarations from the European Commission yesterday that it supported Portugal's choice, in reality the main protagonists in the troika favoured Portugal seeking a credit line from the European Stability Mechanism. As Portugal's prime minister Pedro Passos Coelho addressed the nation on Sunday night and finance minister Maria Luís Albuquerque flew to Brussels for yesterday's eurogroup, the government faced accusations of political manoeuvring, by choosing to cast off the troika so close to European elections.
But while significant challenges remain for Portugal – the Constitutional Court, for example, which rejected previous fiscal measures as unconstitutional, could still reject some outstanding measures, while unemployment remains above 15 per cent – its economic performance has impressed markets.
Unlike fellow bailout nation Greece, a very strong export performance has driven the economic recovery, with exports now accounting for more than 40 per cent of national output, compared to 28 per cent four years ago.
Sharp cuts
Like Ireland, the country has endured sharp cuts to public and private wages and pensions, and a hike in taxes which have succeeded in moving the economy into shape. Yields on Portugal's five-year bonds fell three basis points to 2.45 per cent yesterday, a five-year low, as markets responded positively to the "clean exit" strategy, despite the prevailing view from analysts that a credit line would have been preferable.
The current market calm, which has seen a remarkable rally in so-called euro zone peripheral debt in recent months is worrying some investors. Yesterday’s subdued Spring Economic Forecast from the European Commission was a reminder of the challenges that remain for Portugal.
In particular, the spectre of deflation has emerged as the key policy concern of late, with the European Commission yesterday warning of a prolonged period of low inflation. Its fortunes may depend on the performance of the euro zone economy more generally. The rally in bond yields that has helped it secure a smooth exit may have to continue if Portugal can sustain a long-term return to the markets.
