Country Report Poland
Poland embarked on a broad-based economic recovery, as growth rose from 1.6% in 2013 to 3.3% last year. Large amounts of CHF-denominated mortgages should not derail the recovery, while upcoming elections are unlikely to lead to major policy changes.
Strengths (+) and weaknesses (-)
(+) A relatively large and diversified economy
Compared to its smaller regional peers, Poland’s economic resilience towards external shocks is underpinned by a sizeable domestic market and a limited economic openness. Still, close supply chain integration with neighboring Germany contributes to business-cycle synchronicity.
(+) A stable, profitable and well-capitalized banking sector
Poland’s largely foreign-owned banking sector managed to further boost its already strong capital adequacy ratios, while credit quality stayed at acceptable levels.
(-) Elevated public debt levels limit fiscal space
Poland’s public indebtedness remains relatively high, even as recent pension reforms reduced public debt to about 50% of GDP. As public debt limits have been adjusted accordingly, available fiscal space to boost economic growth remains limited.
(-) Exposure to financial market turbulence
Given large foreign participation in the local banking sector and rising foreign ownership of złoty-denominated government debt, Poland remains exposed to the withdrawal of foreign financing.
1. Poland’s broad-based economic recovery continues
Notwithstanding a deteriorating external backdrop due to weak economic growth in the euro area and the escalation of the Russia-Ukraine crisis, Poland’s economic growth strengthened from 1.6% in 2013 to 3.3% last year. The economic recovery was mainly driven by domestic demand, led by a marked rebound in investments and solid private consumption growth, whereas net exports ceased to contribute to overall growth due to the concurrent rise in imports. Following several years of very weak growth, corporate investments were spurred by high capacity utilization rates and more favorable financing conditions. Private consumption was boosted by an improving labor market, as Poland’s unemployment rate declined from 13.5% in 2013 to 12.3% last year and real wages rose on the back of Poland’s ongoing deflation, which will likely persist until the second half of this year. Meanwhile, consumer confidence has been on an upward trend following a temporary decline in the third quarter amid the escalation of the Russia-Ukraine conflict, which supported domestic demand.
Going forward, economic growth is expected to remain solid, reaching about 3.5% in both 2015 and 2016, as domestic demand will likely continue to pull the economy ahead. Private consumption is expected to remain strong thanks to rising nominal (and real) wages on the back of a further tightening of the labor market. Still, markedly increased debt servicing costs for CHF-denominated mortgages may weigh on households’ purchasing power. Meanwhile, corporate investments should benefit from the ongoing decline of financing costs, recent gains in price competitiveness and the redirection of Polish exports to faster-growing markets. Public investment is expected to pick up this year, reflecting the implementation of new EU cofinanced infrastructure projects. The risks to the outlook are relatively balanced. On the upside, exports may benefit from stronger growth in the euro area thanks to the ECB’s quantitative easing program. Yet, on the downside, this effect could be offset if the złoty were to appreciate too strongly. Still, given ongoing deflation, Poland’s central bank should have sufficient room to cut interest rates to weaken the złoty, if deemed necessary.
2. Protracted deflation does not lead to major economic problems
Notwithstanding Poland’s ongoing positive economic growth, the country’s inflation rate turned negative in the second half of last year amid markedly falling oil and food prices, as well as very low inflation in the euro area. In March 2015, prices fell by 1.5% yoy, while core inflation eased to 0.2% yoy, marking the 26th month in which headline inflation came in below the central bank’s target of 2.5% +/- 1%. Responding to worsening deflation dynamics, the central bank implemented 50bps rate cuts in both October 2014 and March 2015. Since then, it has refrained from any additional monetary easing, leaving the policy rate at 1.5%. While deflation is expected to ease in the second half of this year and risks of it becoming entrenched are low, its negative implications for the Polish economy have been limited. Since deflation has been mainly driven by declining energy and food prices, it did not lead to the postponement of consumption and investment and rather boosted consumers’ purchasing power. Moreover, given Poland’s moderate debt load, a sizeable part of which is denominated in foreign currencies, the implications of protracted deflation for debt sustainability are limited.
3. Swiss-franc appreciation hits FX-mortgage holders, but the overall impact is manageable
Notwithstanding considerable amounts of CHF-denominated loans, recent stress tests by the central bank indicate that the overall impact of the recent strong appreciation of the Swiss Franc on the banking system and the Polish economy remains manageable. Foreign currency-denominated loans, mostly in CHF, account for 19% of total loans and 47% of housing loans, equivalent to 8% of GDP. About 550,000 households hold CHF-denominated mortgages and could see their debt service costs increase by about 17%. Still, thanks income buffers due to recent years’ strong wage growth and a generally better financial situation of households with FX-denominated mortgages, a major increase in non-performing loans remains unlikely. In line with this expectation, there are no plans for active support of households holding FX-mortgages.
4. Presidential and parliamentary elections unlikely to result in significant policy changes
This year’s presidential and parliamentary elections held in May and October are unlikely to lead to major shifts in policy. While incumbent President Bronisław Komorowski of the currently-governing PO-party will likely win the presidential elections, in a tight neck-on-neck race with the opposition PiS-party, his party may only come in second in the parliamentary elections. Still, given the lack of an obvious coalition partner, PiS might not be able to take over the government. Consequently, possibly with the support of a third party, the current PO-PSL cabinet will likely remain in office, bringing with it considerable policy continuity. Yet, if opposition candidate Andrzej Duda were to unexpectedly win the presidential elections, some policies could be blocked by presidential vetoes.
With a nominal GDP of USD 548bn in 2014 and a population of 38.5m inhabitants, Poland is the largest economy in the Central and Eastern European region. In contrast to its smaller peers, like the Czech Republic or Hungary, Poland benefits from a relatively large domestic market, which improves its resilience vis-à-vis external shocks. Nevertheless, the local manufacturing sector is increasingly integrated into German supply chains, which contributes to rising business cycle synchronicity between the two countries. In line with this development, Poland’s exports and imports are dominated by intra-industry trade, primarily with Germany. Notwithstanding these close ties, Poland avoided following Germany into recession in 2009 and managed to post constant positive economic growth since the end of Communism in the early 1990’s. Convergence of GDP per capita levels between the two countries is far from complete, however, illustrating Poland’s considerable catch-up potential. Poland is expected to introduce the euro in the coming years, but given its failure to meet the Maastricht treaty budget deficit criterion (3% of GDP) and the ongoing uncertainty regarding the euro area sovereign debt crisis, no definite accession date has been set yet. Consequently, it will likely keep its freely floating złoty in the years to come, whereby the central bank may at times opt to stabilize the exchange rate, given the country’s exposure to foreign-currency denominated debt. Poland’s social situation is stable and the current government comprising the centrist Platforma Obywatelska (PO) party of prime minister Ewa Kopacz and the Christian-democrat Polska Stronnictwo Ludowe (PSL) enjoys a slim parliamentary majority. Even though PO may fail to become the largest party in the upcoming October 2015 parliamentary elections, it will likely be able to remain in government, as the opposition Prawda i Sprawiedliwość (PiS)-party lacks an obvious coalition partner, barring it from taking over the government.