Week ahead: Portuguese 2015 Budget broadly neutral

Week in review: Unstable markets, Portuguese 2015 Budget broadly neutral

Market prices dropped sharply and yields rose during the week, as investors feared that the slowdown in Europe may be spreading to the US. Early on Friday, markets had stabilised somewhat (The FTSE 100 is now up almost 1%), even as volatility remained high, as resilient US data suggested that these fears were overdone and US and UK central bankers called for rates being lifted later than currently anticipated. Nevertheless, this week’s sell-off has rekindled the debate market’s apparent addiction to liquidity after several years of ultra-loose monetary policy. It is unclear how the markets will react when the Fed actually starts tightening policy, but this week’s experience suggests that the road to normality may be very turbulent and painful.

In Portugal, the 2015 Budget shows no tightening in fiscal policy next year. Though the deficit is likely to fall from 4.8% of GDP in 2014 to 2.7% of GDP in 2015, the structural deficit (ajdusted for the business cycle and excluding one-off measures) will remain broadly unchanged. The measures to cut spending and raise revenue include further reducing the number of civil servants through negotiated dismissals and retirement, intrducing a cap on some benefits, raising energy and environment taxes, raising consumption taxes on alcohol and tobacco, rasing taxes on the banking sector and introducing taxes on online gaming. However, these will be partly offset by a cut in the company’s tax, a cut in the special tax on pensions, raising civil servants’ wages and lowering income tax for families with dependents (this is part of a separate package that will not be voted together with the Budget). The Government also introduces an innovative tax credit system through which the special personal income tax rate that is applied to allmost all revenue will be returned to households in 2016 if the 2015 collection of VAT and Personal income tax exceeds Government expectations. Given that 2015 is an election year, the actual implementation of this measure will be the responsibility of the new Government.

Over the last few years, the capacity of the Government to implement many structural measures has been affected by the decisions of the Constitutional Court. However, this year, the Government has not pushed for further structural changes, probably due to elections next year. Even so, the deficit should be lowered to below the Stability and Growth Pact limit of 3% for the first tme in many years, which should help keep the EU Commission and the IMF off the Government’s back.

Jean Tirole won the Sweriges Riksbank Prize in memory of Alfred Nobel, otherwise know as the Economics Nobel Prize, for its work on regulation of large firms.

Week ahead: All eyes on activity data

  • Thursday 23 Octber: The markets’ focus will be on the October flash PMIs released on Thursday as investors gauge whether growth in Europe is derailing. The consensus gathered by the FT points to the manufacturing PMI edging down but remaining close to the zero-growth threshold. Should the data disappoint it may lead the ECB to consider buying sovereign debt.