Analysis: Poland to miss deficit goal, shy of pre-poll reforms

WARSAW Thu Mar 10, 2011 9:39am EST

Poland's Prime Minister Donald Tusk gestures as he speaks during a news conference about changes in the pension system in Warsaw, March 8, 2011. REUTERS/Slawomir Kaminski/Agencja Gazeta

Poland's Prime Minister Donald Tusk gestures as he speaks during a news conference about changes in the pension system in Warsaw, March 8, 2011.

Credit: Reuters/Slawomir Kaminski/Agencja Gazeta

WARSAW (Reuters) - Fiscal risks to Poland's sustained economic boom are growing and the center-right government will have to deliver long-delayed reforms if it wins a second term this year to placate increasingly jittery markets.

Economists agree that plans to slash the deficit by nearly two-thirds by 2012 are unconvincing but they have given Prime Minister Donald Tusk time as he shies away from further unpopular moves ahead of an increasingly tight election race.

The relative calm is largely a product of years of relatively restrained borrowing and Warsaw's record of generating strong growth throughout the financial crisis in what is by far the biggest of the EU's former communist states.

But with the deficit topping 8 percent of gross domestic product -- its highest since the launch of market reforms in the early 1990s -- they say the administration must finally deliver the deeper structural reforms promised by consecutive cabinets since before Poland joined the European Union in 2004.

Even Tusk has expressed doubts about his finance minister's promise to Brussels to cut the deficit to 3 percent of GDP in 2012, though he says 2013 is realistic.

"The budget plan is not credible. They will be lucky to get the deficit down to 4 percent next year," said Nigel Rendell, emerging markets strategist at Royal Bank of Canada in London.

"The markets can live with Poland's deficit for now but if nothing much changes after the elections there will be a lot more angst from the ratings agencies," said Rendell.

Moody's ratings agency said last month Poland's A2 rating was safe until the October election but that the new government must then show determination to cut the deficit.

Poland is only one of 24 EU states currently under the EU's excessive deficit procedure but Tusk, buoyed by strong growth at home, has seemed more relaxed than his peers about tackling the shortfall and has ruled out "radical reforms."

Economists say the very fact that Poland can produce such a large budget deficit even while its 353 billion euro economy is notching up robust growth -- an expected 4 percent this year -- simply underlines the case for structural reforms.

Liberal critics say the plan sent to the European Commission consists mainly of one-off stopgap measures and that the PO's record gives no reason to suppose it will change its tune if it wins the October election.

"Of the 5 percentage points of fiscal consolidation now proposed, about 3.5 percent is just creative accounting or vague rules," said Krzysztof Rybinski, a former central banker and prominent critic of Tusk and Finance Minister Jacek Rostowski.

"Those in the market who think PO has a magic plan in its drawer that it will pursue after winning re-election are naive."

The government may be putting too much trust in continued strong growth, given rising global oil, food and commodity prices and expectations of more monetary tightening.

Poland's central bank, which has chided the government over the yawning budget gap, raised the key interest rate in January by a quarter of percentage point to 3.75, the first rise since June 2008, and signaled more hikes to come.

"The world of low interest rates is coming to an end. We are entering an era of scarcer capital, rates are going up, and any country like Poland with huge infrastructure needs and no big sovereign wealth fund is going to have troubles," said Nicholas Spiro, head of Spiro Sovereign Strategy in London.

PENSIONS

The centerpiece of the government's deficit reduction plan is a partial reversal of a landmark 1999 pension reform that entails diverting some employees' contributions away from private pension funds (OFEs) back into the state system.

The plan, approved by the cabinet Tuesday and expected to take effect in May, should shave 0.72 percent off the deficit this year and a further 0.42 percent in 2012.

The overhaul risks eroding support for PO among younger middle class voters, its core supporters, a fact officials say disproves claims of a lack of political courage for reforms.

Liberals want Tusk instead to restrict generous social benefits to the truly needy, raise the retirement age and bring uniformed services -- such as the police -- into the regular pension system, arguing these could save billions of zlotys.

It could also enact laws to reduce the three quarters of the state budget currently made up of mandatory spending and thus immune from spending cuts, they say.

In the government's favor is the fact that its habit of giving conservative growth and inflation estimates in its budgets allows it scope to surprise on the upside.

Privatization is expected to bring $5 billion into state coffers this year on top of the $8 billion received in 2010.

The finance ministry has also clamped a corset on local government spending, a move expected to shave 0.40 percent off the deficit in 2012 though it will hit investments at a time when Poland is trying to modernize its creaking infrastructure.

(Editing by Patrick Graham)

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