Portugal: Eighth and Ninth Reviews Under the Extended Arrangement and Request for Waivers of Applicability of End-September Performance Criteria

EXECUTIVE SUMMARYDiscussions for the combined eighth and ninth reviews were delayed by a political crisisand marked by new adverse Constitutional Court rulings. Reflecting in part austerity andreform fatigue, tensions within the ruling coalition led to two prominent cabinet memberstendering their resignations. The crisis triggered a government reshuffling, but uncertainty wascompounded by concerns about the predictability of policymaking following new unfavorableCourt rulings against an important public expenditure reform as well as steps to soften strictemployment protection rules. These developments led to elevated sovereign yields, delaying thegovernment's plans to follow up on successful bond issues earlier this year.The near-term economic outlook has nevertheless improved somewhat, and progress hasbeen made toward the program objectives. Recent economic data signal that the economymay have bottomed out. Remedial actions were taken to address delays in reforms due to thereorganization of the government. All end-June performance criteria and all but one structuralbenchmarks underpinning the review have been met.Program review discussions focused on measures needed to keep the program on track. Itwas agreed that, in view of the now narrow path to full market access, adhering to the programstrategy was critical to signal commitment to reforms and boost confidence. The fiscal targetswere reaffirmed and fiscal measures were identified to underpin the targeted adjustment.Discussions also focused on steps to strengthen supervision in view of the still challengingconditions facing banks and on the structural agenda to boost competitiveness and growth.Nonetheless, implementation risks are high, and political cohesion remains critical.Renewed tensions within the government need to be avoided, as they would delay the recoveryand increase downside risks to the program. There is also a risk that new Constitutional Courtrulings will further complicate policy making and heighten economic uncertainty. Decisive policyresponses in case this risk materializes will be essential since the room for maneuver under theprogram has become limited.Staff supports the authorities' request for completion of the combined eighth and ninthreviews and for waivers of applicability of the end-September PCs. The purchase releasedupon completion of this review would be in an amount equivalent to SDR 1679 million.