Given how much praise the Portuguese economy has received lately, I thought it was timely to share my views about Portugal and why I’m not buying into the recovery story that the worse is behind and that we’re on the right track to prosperity. Not only that, but I also think Portugal will NOT be in the same currency as Germany by 2020-2025. You will always make more friends if you you stick to the herd’s narrative (a sense of group belonging inherent to human condition), but I hear so much one-sided views in the mainstream media deluding many people & investors that I’m forced to write about a topic I so profoundly believe. Much has been written this week about the Portuguese benchmark 10-year yield dropping below that of the US. Is that reasonable? Sure, there are always explanations why that is the case (US is on a solid path to growth, ECB QE program, deflation in Europe, Portugal primary fiscal surplus), but I try to step away from hindsight bias and ask myself if that makes sense. And I don’t think it does, as it didn’t for the subprime, tech bubble, Japan 1989 and many other events throughout our recent history – where a very small minority of people saw it coming. Yet, once it happens people wonder “how could no one see it?”. If someone had told me in 2011, at a time when our 10 year bonds were yielding 16% versus 2% in the US, that Portugal would be paying today 20 bps lower to borrow for 10 years than the US (regardless of currency differences), I and everyone else would think the person is crazy. Let’s first dive into how mainstream media portrays Portugal, as “the” example that austerity policies worked:
- Unemployment dropped to 13.5% (from 17.5% in 2013)
- One the fastest growing GDPs in Europe: 0.9% in 2014
- Exports grew 40% since 2011 leading to a positive current account (after 30-40 years deficits)
- Fiscal primary surplus of 0.4% (from -8.2% in 2010)
So why am I not buying into this? Why am I trying to spoil the party? After all it seems pretty solid evidence that the country is in a trajectory of strong growth, right? Well, yes. The country is indeed in a much stronger position today than it was 4 years ago. We implemented several quick-fix policies to reduce expenditure and increase the tax take, reducing the structural deficit to around 3-4% of GDP. Bravo! But that shouldn’t blind us from seeing the obvious weaknesses of the Portuguese economy: Nor do people have to defend vigorously either side and rush to conclusions for the sake of reaching farther in their careers (the important is to have a confident opinion, optimistic or pessimistic, but staying in the middle won’t get you far in an organisation). Aristotle once famously admitted “the more you know the more you don’t know”. With this in mind, let’s challenge one by one the above “strengths”:
- Unemployment dropped to 13.5%. Mostly at the expense of a massive wave of emigration – around 100k workers per year. A large part of this emigration wave has been of qualified works, leaving a huge brain drain in Portugal with long lasting consequences for the future (for more watch FT video https://www.youtube.com/watch?v=pfIqHp_CqYw)
- One the fastest growing real GDPs in Europe: 0.9% in 2014. According to a recent Mckinsey report “Debt and not much deleveraging” from Feb 2015, Portugal needs real GDP growth of 3.9% in the coming decades to be able to repay its debts. If we hardly grew between 1995 and 2010, when we had budgets deficits of up to 10 per cent of GDP and external deficits close to 20 per cent of GDP, is it reasonable to assume we will now grow 3.9%?
- Exports grew 40% since 2011 leading to a positive current account (after 30-40 years deficits). Sure, but so did the EU as a whole by lifting exports as % of EU GDP from 25 to 35%. Whilst it’s good news, it does not set us apart from other EU countries (all benefiting from a weaker EUR).
- Fiscal primary surplus. Again, according to the Mckinsey report we still need a further 3.6% adjustment to start deleveraging. With all the adjustments that occurred in the last 3-4 years, we still require a further 3.6% adjustment? We are tolerant people, but I don’t think we will get there without a Portuguese Tsipras emerging.
To add to this we now have a Debt/GDP ratio of 130% (a ratio that has been meanwhile revised upwards to account for drugs, prostitutes, goodwill, etc), households barely deleveraged, Non-financial corporate debt increased to 156% of GDP (which is the 4th highest corporate debt level among the 25 OECD countries), a growing external debt now larger than that of Greece!!, structural reforms hardly took place, corruption that remained entrenched in the society & politics, justice that did not improve materially, bureaucracy still a big problem. But I actually want to bring the discussion to a deeper level because what I listed above are symptoms, not the causes. When I hear discussions about Portugal I see people mistaking these 2 concepts. Without a deeper analysis we won’t be able to address the real causes of our precarious situation. I’ve actually been on a mission to diagnose the causes since 2012, when I was in Tanzania during my honeymoon and my safari driver asked me the following question:
“How come Portugal is in a crisis when only until a few centuries ago it dominated the world?”
This question kept me busy since 2012 and for years now I’ve been trying to come up with an answer. After all “why is Northern Europe rich and Portugal poor??” For years I assumed it was down to our entrenched corruption (and tolerance to it), to lack of justice, to the promiscuity between business and politics, etc. But then I realised again those were the symptoms, not the causes. Then, I thought it was because we may have gotten spoiled during our years as colonisers (with abundant access to free resources by exploiting our colonies in Africa & Brazil) that led to complacency. That certainly played a role but many other rich countries were also colonisers (UK, Netherlands, France) and they are in a much better position than we are. So I continued digging deeper and my next logical explanation brought me to Religion and to our propensity as catholic people to tolerate and forgive sins much more than our northern European counterparts do. I am married with a Dutch woman and it’s evident some cultural differences between us (which have been reconciled because we committed to marry, something the Germans and Portuguese were not asked to do). Small things such as getting to meetings on time, voting religiously in every election, paying bills on time, family ties, the importance to honor word agreements, accountability, transparency, etc. On an aggregate level all these “small” things have huge ripple effects on the economy. Red tape, corruption, lack of justice, excessive bureaucracy, etc are all manifestations of catholic religion and all very important factors currently deterring foreign investment, essential to sustainable growth. Of course not all catholic traces are bad for the Economy. One may actually argue if solidarity, family ties, forgiveness are not more important than the pursuit of money at any cost. Perspectives!
However it was not until a recent conversation with my parents (in their 70s) that I realised that the main reason may have to do with something I rarely heard before: The dictatorship we were subjected to between 1932 and 1974, which makes us appreciate so much the freedom we now enjoy that we don’t even care if politicians running our country mismanage public funds for their own benefit. It’s sort of an accepted behaviour, a price we are willing to pay for freedom & democracy. We go as far as re-electing politicians accused (and already sentenced) of corruption charges, money laundering, etc (Valentim Loureiro, Isaltino Morais, etc). The most prominent case perhaps is Jose Socrates, our prime minister between 2005 – 2011 who’s now in jail. Recent polls suggest his political party, that many argue led the country to the verge of bankruptcy, will win the next legislative elections in October. In fact, nothing seems to deter voters from voting in the two mainstream political parties in Portugal. Such is the fear of going back to the days of dictatorship that we’re “ok” with the status quo. Only that explains why no new political party emerged in Portugal since the crisis (contrary to other countries with Podemos in Spain, UKIP in the UK, Geert Wilders in Nederlands, Le Pen in France, Beppe Grillo in Italy, Syriza in Greece, etc). We are so happy being in a democracy and free of dictatorship that we are willing to pay the price of a few politics concealing 1-2% annually in very dubious PPP contracts, bailing-out corrupt banks (Espirito Santo, BPN), promiscuity between large businesses and politics (Portugal Telecom / Rio Forte the latest examples), etc. Give us peace, freedom, good weather, beach and we are happy. Not long ago I heard a prominent Portuguese politician saying “Democracy has costs”, I guess he was referring to that!
It’s been a while since dictatorship ended so it’s hard to illustrate how bad the situation was 60 years ago. For example you were not allowed to listen to radio for fear of going to prison (or worse). Think of North Korea today, that may help illustrating how good it feels to live in a democracy today. We were so happy in the period 1974-2008 that we neglected many aspects of a functioning democracy and we’re now paying the price for it. If we want to belong to the same club as Germany, Netherlands, etc, we have to speed up our democratic culture, but these things take time to run its natural course. Other European countries have been in democracy for much longer. A more fundamental question then urges: Who should pay for the corruption abuses? The Germans (that also contributed to it by selling submarines in less scrupulous ways to a country they knew couldn’t afford) or the Portuguese population (who feel they have little to do with it and feel more and more detached from politics)? That is perhaps a better question to address than whether we should pursue austerity or pro-growth policies. The Germans think it’s the Portuguese population of course, as they have the power to change things in a democracy through the vote. However the Portuguese Jose & Maria feel they have nothing to do with it either. They just go about doing their day-to-day jobs in an honest hard-working manner, so why would they have to pay for it?
We also know that growth can only be achieved by 2 macro-variables: Productivity or population growth. Productivity improvement is driven by technology, investment, culture, functioning justice, less corruption, less red tape. But for the reasons mentioned above, I’m unconvinced about a substantial contribution there. The other alternative is population growth, but Portuguese demographics look terrible and amongst the worse in the world! Our population is actually likely to shrink by 10% to 9mio by 2050… Not only that, but the entire pyramid structure will also get older, leading to more generational conflicts between the old (who want the status quo to prevail and larger social benefits) and the new (who has been forced to accept the culture or emigrate).
There are a few reasons to be optimistic, but more reasons to remain skeptical about our ability to repay our monstrous debt and to stay within the Eurozone. My view since 2011 is that we have no alternative but to depart from the Eurozone if we ever want to regain competitiveness and get breathing space to build our democracy again. Not just from an economic but more so from a cultural & religious standpoint. In order to stay in the same economic block with the Northern Europeans, we would have to give in our own cultural & religious DNA. The problem though is that it may take generations to change this (if ever), and I don’t think the German led-block and its voters are willing to wait the necessary time (a few decades) to change mentalities. Alternatively, we can stand firm for what we believe but then there’s no place for us in the European Union. Either way, all roads lead to the same destination: Portugal can’t co-exist with Germany in the same currency.
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