Poland’s economy showed surprising resilience to the economic crisis, making it the only country in the CEE region whose economy has grown in 2009. This is largely due to Poland's large internal market, its diversified industrial structure and its relatively low dependence on exports. However, some economic and political factors can still hold back the country's recovery and hamper economic growth after the crisis: Namely, its rising budget deficit, political tensions between Prime Minister Donald Tusk and the President Lech Kaczyński, and a delay in adopting the euro as its currency.

 

 

 

I. Rising Deficit, Rising Debt

 

 

Until recently, Poland’s better-than-expected economic performance had diverted attention from its rising budget deficit and public debt. These problems only became apparent gradually because virtually every analyst had underestimated the impact of the economic crisis.

 

The Polish government realized last summer that its original budget-deficit goal of PLN 18.2 billion (EUR 4.3 billion) was no longer realistic, so it raised the target to PLN 27.2 billion (EUR 6.6 billion, or about 6.3% of GDP). From that moment on, the administration has been desperately seeking additional sources of revenue so as to avoid another revision.

 

The 2009 deficit goal seems attainable at present, but the real test will come in 2010. The draft budget for next year foresees a deficit of PLN 52.2 billion (EUR 12.4 billion, or approximately 7.3% of GDP), almost double this year’s target. The administration wants to plug this fiscal hole by selling off its stakes in state companies and by siphoning away money from the Demographic Reserve Fund (DRF), the state’s set-aside account for pensions.

 

Government planners appear to have been overly optimistic about the money they would be able raise from privatization.[1] In addition, the public is not particularly keen on the plan: Polish citizens overwhelmingly reject the idea of decreasing the budget deficit with proceeds from privatization, according to a poll conducted by CBOS.

 

 

The idea of pumping out money from the Demographic Reserve Fund is a more worrisome trend. The government set up the DRF in 2002 to ensure that it would not run out of money for future pensions; spending it now would jeopardize that goal. The budget proposes to use the PLN 6.5 billion (EUR 1.6 billion) currently in the DRF to shore up the Social Insurance Fund.

 

 

Source: Central Statistical Office, Ministry of Finance

 

The public debt also gives cause for concern. In a little less than a year it has risen to 49% of GDP – an increase of nearly 6% – and may hit 51% of GDP by year’s end. The government predicts that the debt level will stagnate at around 55% between 2010 and 2012. The risk here is not the debt level itself, since the government has a constitutional obligation to reduce it. The main source of concern is Poland’s slipshod fiscal planning; if it does not improve, austerity measures may beckon, which may stymie economic growth. Poland need look no further than Hungary for an example of how budgetary austerity can damage economic health. Poland certainly needs to temper state spending and overhaul public finances – but the need for such reforms is not generating even a trace of debate in either the political discourse or the 2010 budget bill. It is therefore unclear which direction the reforms will take, while the public remains unprepared for it.

 

 

Source: Eurostat, Polish Ministry of Finance

                                             *Forecast of the Polish Ministry of Finance

 

 

II. President and Prime Minister in Power Struggle


 

The animosity between Polish Prime Minister Donald Tusk and President Lech Kaczyński has been simmering since Tusk’s Civic Platform (PO) defeated the President’s Law and Justice Party (PiS) by a comfortable margin in 2007. Their disagreements became more pronounced once the financial crisis struck, forcing Tusk’s government to seek new funds to compensate for falling state revenues. The most logical move would have been a moderate tax hike, but Kaczyński would not hear of it. The government will certainly able to get by without raising taxes in the short term, but there will come a time when it will become unavoidable. This presages a bitter conflict between PM and president.

 

The upcoming 2010 presidential election simply complicates matters. Tusk is still safely ahead of Kaczyński in presidential opinion polls. The fallout from “Blackjack-Gate”, where senior government officials were forced to resign over accusations of corruption, did not hurt Tusk’s position because the public was impressed by his deft handling of the scandal. However, Kaczyński and PiS will probably use the incident to fuel their attacks on government and Tusk himself. This decreases chances for a substantive debate on fiscal policy. Religious fundamentalists may make things more difficult by pushing a populist political program. PiS has recently been able to assimilate these voters into its base, but their “protest potential” may increase dramatically if the economy takes an unexpected turn for the worse or a political scandal tarnishes the government’s credibility (as happened to the Socialist-led government between 2001 and 2005). Far-right populist-nationalist parties may therefore become more popular.

 

After the presidential vote wraps up, Poland’s politicians face an election for Parliament in 2011. Since pledges of fiscal austerity rarely win votes, the campaign will avoid such issues.

 

It should therefore come as no surprise that the Finance Minister told reporters the government only plans to address the budget deficit starting in 2011.

 

 

Source: CBOS

 

 

III. Euro Area Grows More Distant


 

The deteriorating fiscal conditions are gradually making it clear that the government’s plan to join the Euro area in 2012 is unrealistic. Poland hasn’t fulfilled any of the Maastricht Treaty’s convergence criteria save its stipulations on the debt-to-GDP ratio and the benchmark interest rate.

 

  1. The budget deficit is going to be very far from Maastricht’s mandatory 3% of GDP until at least 2011. It is unrealistic to expect Poland’s deficit to decline at a rate similar to Hungary’s (which slimmed from 9.3% of GDP in 2006 to 3.8% in 2008): Since Poland is still an attractive investment target, business leaders will not put as much pressure on Warsaw to control its spending as they did on Budapest. Thus the pace of deficit reduction will be more moderate – but the price of slower reduction will be a later euro-adoption date.
  2. The EUR/PLN exchange rate is far too volatile for Poland to consider entering the ERM II, the EU’s waiting room for countries that want to adopt the common currency. Once a country joins ERM II, its currency can rise or fall no more than 15% against the euro for two consecutive years.
  3. Poland’s inflation rate, on the other hand, is on a promising downward trend.

The most optimistic scenario is that the country will be able to adopt the euro in 2015. Public opinion will not support expedited entry to the euro zone if it entails a lot of short-term sacrifice. Delaying the euro means the zloty will remain volatile and vulnerable to asymmetric shocks. Furthermore, membership in the “Euro club” is not just result of stability, but a mark of stability as well: The longer Poland delays introducing the euro, the greater the chance that investors will choose to send their funds to regional competitors that have already adopted the common currency. This puts Poland’s regional position at risk.

 

 

Source: National Bank of Poland

 

 


[1] Treasury Minister Aleksander Grad has already admitted that privatisation revenues will not meet their targets for this year.