OREANDA-NEWS. The Portuguese government's 2016 budget proposal aims to maintain fiscal consolidation but is based on growth forecasts and revenue and spending plans that may prove unrealistic, Fitch Ratings says.

The minority Socialist government that took office in November released its first budget proposal late last week. It envisages a headline budget deficit of 2.6% of GDP, narrower than the 2.8% that the new government had previously indicated, but wider than the 1.8% that the previous centre-right coalition was targeting by end-2016.

This is consistent with our expectation that the new government would maintain the Socialists' long-standing commitment to abide by EU fiscal rules, giving it scope to slow but not reverse deficit reduction. The formulation of the budget proposal without significant dissent from the more radical Left Bloc and Communist parties that are supporting the Socialists in parliament shows that there is still political scope for consolidation.

However, the budget proposal demonstrates the downside risks to the medium-term fiscal outlook, which depends on continued economic recovery as well as the government's fiscal policy measures.
It predicts that growth will accelerate to 2.1% in 2016, while we forecast real GDP growth to be only 1.7%. Recent data do not indicate any notable improvement in growth rates and the expectation that rising external demand will boost exports may prove optimistic given the emerging markets' slowdown and subdued eurozone growth.

Some measures in the proposal lack detail, leaving it unclear how the government will reconcile its aim of moderate fiscal consolidation with its pre-election commitment to reverse austerity measures. For example, reversing cuts to public-sector salaries will cost around EUR446m, but current expenditure cuts that could help offset this and contribute to the planned overall reduction in spending are not spelt out.

The government sees debt/GDP falling to 126% of GDP by end-2016 (still well above the 'BB' and 'BBB' category medians) but this will depend on full implementation of planned consolidation, and the impact of one-off factors such as the ultimate potential cost of the creation and sale of Novo Banco. This is slightly below our current forecast (127.9%), reflecting our lower growth and higher deficit expectations.

Public finances and the fiscal stance are key sensitivities for the Portugal's 'BB+'/Positive sovereign rating. Fiscal relaxation resulting in a less favourable trajectory in government debt/GDP levels could lead to negative rating action, as could weaker growth that had a negative effect on public finances.