LISBON Portugal's lenders eased its budget goals on Friday and gave it more time to make unpopular spending cuts, acknowledging the country's compliance with its bailout program will not prevent its economy from slumping further.
Finance Minister Vitor Gaspar said Portugal remained on track to exit its rescue program in mid-2014 following a longer-than-usual bailout review that he described as difficult.
But it must do with an already fragile economy looking shakier than ever.
The inspectors from the 'troika' of international lenders - the European Commission, IMF and European Central Bank - who cleared the way for the next 2 billion euro tranche of loans said they expect Portugal's gross domestic product to slump by 2.3 percent this year.
That forecast is far worse than the 1 percent drop they predicted during their previous review in November - starkly illustrating the impact of successive waves of austerity on prospects for growth.
"This review was difficult. Europe still lives a period of crisis," Gaspar said. "We all know how this external setting affects the Portuguese economy."
The lenders said in a statement that "program implementation remains broadly on track, against the background of difficult economic conditions."
Last month, the European Commission forecast Portugal's economy would shrink by 1.9 percent this year, mainly blaming Europe's recession.
"The (new) macroeconomic outlook seems more realistic and is in line with our projections," said Paula Carvalho, economist at Banco BPI. "The current numbers are more realistic, the previous ones were too optimistic."
With resistance to further austerity within Portugal having gathered pace in recent weeks, the lenders granted an extra year, until 2015, for Lisbon to make permanent spending cuts worth 2.5 percent of GDP, or roughly 4 billion euros.
That carried echoes of events in Brussels, where EU leaders meeting to discuss ways of reviving growth faced calls from thousands of protesters to put an end to the austerity blamed for record unemployment in parts of Europe.
In central Lisbon, about 2,000 civil servants marched in protest against austerity, carrying banners reading "Out IMF."
LONG AND PAINFUL ROAD
Portugal's recession is in its third year and is the country's worst since the 1970s - brought on by a fall in consumption and investment after the government imposed painful tax hikes and spending cuts under the 78-billion-euro bailout.
"This is a process that we knew would be long, but at this stage we had expected more promising results in terms of growth and job creation," said Filipe Garcia, head of Informacao de Merados Financeiros, a consultancy. "In the wider context, Portugal is a byproduct of the fact that Europe is following non-expansionist strategies to fight the crisis."
Growing demands for an easing of the government's austerity program have come not just from the leftist opposition, but also increasingly from businesses. Some business leaders have already said one extra year to cut the deficit is not enough and called against further spending cuts.
The troika also agreed to ease this year's budget deficit goal to 5.5 percent of GDP from 4.5 percent previously, Finance Minister Gaspar said. They had already eased the targets once last September.
Next year's deficit target will now be 4.0 percent compared to 2.5 percent previously - which becomes the 2015 goal.
Gaspar said the seventh review had "opened the way for the adjustment program to end in June 2014," as scheduled.
Under the program, Portugal was due to return to bond markets in the second half of this year. But it already launched a 5-year bond in January and Gaspar said the conditions "appear appropriate for a possible bond issue in the coming weeks."
Portuguese 10-year bond yields were unchanged around 5.97 percent on Friday, near their lowest levels since the end of 2010, before the country sought its a bailout.
Fellow euro zone bailout recipient Ireland sold 10-year bonds earlier this week, in its biggest step yet towards exiting its rescue program later this year.
For Portugal, while economic growth is still expected to return next year, that too was revised lower, to 0.6 percent from 0.8 percent, Gaspar said.
Debt will now continue rising, to peak around 124 percent of GDP in 2014.
Unemployment, which hit a record 16.9 percent at the end of last year, pressuring the budget and stoking protests, is now expected to climb to 18.2 percent this year and 18.5 percent in 2014. Previously, the European Commission expected the jobless rate to peak at 17.3 percent this year.
The Portuguese, who had shown much tolerance for austerity, have stepped up protests and strikes since the middle of last year, when the government reversed a hike in social security contributions which angered thousands.
(Additional reporting By Daniel Alvarenga, Andrei Khalip and Filipe Alves, writing by Axel Bugge; Editing by John Stonestreet, Ron Askew)