"The latest IMF data indicates that Poland's debt to GDP will drop below 45% in 2020. This is almost 9 percentage points less than estimated a year and a half ago and much better than the forecasts of the Council of Ministers in the first half of 2018," writes Marcin Lipka, Conotoxia Senior Analyst.
The International Monetary Fund (IMF) published the latest forecasts for Poland in the report Article IV Consultation. The Fund expects the economic growth pace to slow down from 5.1% in 2018 to 3.6% this year and 3.0% the following year.
The IMF's expectations are not surprising. In the last two years, Poland has been developing significantly above the potential growth pace (about 2.8% according to the IMF data). This was a result of a very good external situation (at least until Q3, 2018) and a surprisingly high inflow of immigrants from Ukraine, who supplied the domestic labour market, reducing difficulties for enterprises to find employees, and increasing consumption and the inflows to the Social Insurance Institution (ZUS).
The growth pace was also strong due to the growing value of investments co-financed from EU funds and stimulation of fiscal policy through the Family 500+ child benefit program. Moreover, the good economic situation allowed an increase in salaries, a reduction in unemployment and an increase in the employment rate. All these factors which are positive for growth will expire, therefore, the growth pace will also decrease to around 2.8%.
A much more interesting element of the publication is the Debt Sustainability Analysis (DSA). It has significantly improved in comparison to the analogous study from a year and a half ago. What helped to achieve such an excellent result?
Debt below 45% of the GDP
According to the DSA, the debt for the Polish public finance sector is expected to fall to 44.7% next year. This is tremendous progress in comparison with the data for 2017 (50.6%), as well as in relation to, e.g. last year's "Multiannual Financial Plan of the State" (MFPS) adopted by the Council of Ministers.
In the MFPS, the debt to GDP was to fall to 48.7%. A year ago these estimates seemed very optimistic. Besides, the MFPS forecasts were not implemented successfully due to lower than expected GDP growth and less pronounced than expected savings.
Interestingly, the huge "overshooting" in the forecasts was visible in the analogous report of the IMF from mid-2017. Then, the Fund estimated that in 2020 the debt-to-GDP rate would reach 53%, and now it is 44.7%. This is almost 9 percentage points less in just one and a half years. What is the reason for such a strong improvement in Polish finances?
Poland overcomes debt…
First of all, the IMF forecasts from mid-2017 underestimated the GDP growth pace. In nominal terms (i.e. real economic growth plus inflation), an increase of as much as 14% has been recorded in the last two years. This means a very strong increase in the denominator in debt to GDP formula.
On the other hand, in the case of deficit values that affect the numerator, the values have been revised downward. A year and a half ago the IMF estimated that without interest costs the deficit would amount to 0.9% of GDP in 2018 and 0.7% in 2019. Now, a surplus of 0.9 is expected both in 2018 and 2019. As a result, debt growth (by adding financing costs) is slower than expected and GDP growth is much faster.
This double and positive effect is the result of factors previously associated with extremely rapid economic growth pace (good external situation, immigrants, employment growth) and lower spending. This reduction was mainly driven by the good external situation and the increase in immigration-related employment. This reduces the scale of budget subsidies to pensions paid or reduces the cost of living for the unemployed. Tightening the tax system was also a positive element that should be remembered.
...but it needs to be extremely cautious
Some of these favourable trends should continue in 2019, which demonstrates an increase above potential. Subsequent years (after 2020) will be much more difficult, especially as the EU funds will be smaller, there is little chance for a positive impact of immigration and demographic processes will increasingly trouble the Polish economy, reducing labour resources and increasing the cost of living for economically inactive people.
Therefore, it is crucial to keep the financial sector under control, taking into account inevitable demographic processes and the assumption that the external situation will be much less favourable than in the last two years, which have contributed so much to a positive verification of IMF forecasts.