Republic of Poland
Arrangement Under the Flexible Credit Line and Cancellation of the Current Arrangement—Staff Report; Staff Supplement; Press Release on the Executive Board Discussion; and Statement by the Executive Director
Author:
International Monetary Fund. European Dept.
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Publication Date:
24 Jan 2013
eISBN:
9781475591422
Language:
English
Keywords:
ISCR; CR; FCL arrangement; SDR; economy well; Poland; balance of payments; banking system; current account; exchange rate; government bond; Public sector; Current account deficits
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Poland’s economy has recovered well in 2010–11, reflecting strong economic fundamentals and decisive countercyclical policies. Poland’s strong trade and financial links to Europe continue to make it vulnerable to potential shocks from the region. Despite the difficult external environment, the authorities have continued to rebuild policy space to counter adverse shocks. Measures are also being taken to strengthen medium- and long-term fiscal sustainability. The economy is expected to moderate further in 2013. Financial sector policies have helped improve the resilience of the banking system.

Abstract

Poland’s economy has recovered well in 2010–11, reflecting strong economic fundamentals and decisive countercyclical policies. Poland’s strong trade and financial links to Europe continue to make it vulnerable to potential shocks from the region. Despite the difficult external environment, the authorities have continued to rebuild policy space to counter adverse shocks. Measures are also being taken to strengthen medium- and long-term fiscal sustainability. The economy is expected to moderate further in 2013. Financial sector policies have helped improve the resilience of the banking system.

I. Context

1. Poland’s economy recovered well in 2010–11, reflecting very strong economic fundamentals and decisive counter-cyclical policies. Limited macroeconomic imbalances prior to the crisis and counter-cyclical policies during the crisis aided the strong recovery. The banking system remained largely resilient to external turmoil despite substantial foreign ownership and a high share of foreign-currency denominated mortgages. The floating exchange rate regime played a stabilizing role, while broadly adequate international reserves and the precautionary FCL arrangement boosted market confidence. At the conclusion of the 2012 Article IV Consultation, Executive Directors commended the authorities for sound macroeconomic management, which has underpinned the good performance of the Polish economy in a challenging environment.

2. Nevertheless, Poland’s strong trade and financial links to Europe (notably the euro area) continue to make it vulnerable to potential shocks from the region (Figure 1). Bilateral trade with the euro area accounts for more than half of Poland’s total trade, and Polish manufacturing firms are heavily integrated into the German supply chain. Around ⅔ of the Polish banking system is foreign-owned, of which 90 percent are subsidiaries of European banks. Although the withdrawal of funding from parent banks—while large—has so far been orderly, Poland (like other CEE countries) remains at risk of disorderly deleveraging. Poland also has large gross external financing needs (expected to be about 22 percent of GDP in 2013, reflecting to a large extent parent funding and intracompany loans), and sizeable portfolio inflows (driven in part by global liquidity conditions) have increased nonresidents’ share of government bonds issued in the domestic market to 36 percent, a record high. Poland’s status as a “gate-keeper” economy for the region, in which investors take positions to express views not just on Poland but on the region more broadly, and relatively deep and liquid financial markets make it vulnerable to a retrenchment in global risk appetite.

Figure 1.
Figure 1.

Poland: Linkages and Spillovers

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: Polish Ministry of Finance; DOTS; Bloomberg; GFSR; and IMF staff estimates.1/ Data show the percentage change in the countries’ CDS associated with a 1 percent change in average CDS of Ireland, Italy, Portugal, and Spain; computed from weekly observations beginning in Jan 2011.

3. Despite the difficult external environment, the authorities have continued to rebuild policy space to counter adverse shocks and prepare for a timely exit from the FCL arrangement once external risks recede.

  • Substantial fiscal consolidation reduced the deficit from 7.9 percent of GDP in 2010 to 5.0 percent of GDP in 2011. These consolidation efforts have supported market confidence and contributed to favorable financing conditions. They have also complemented Poland’s pre-existing fiscal rules, which limit public debt to 60 percent of GDP and require automatic fiscal tightening when public debt exceeds 55 percent of GDP.1

  • To contain inflationary pressures and anchor inflation expectations, the Monetary Policy Council (MPC) hiked policy rates by a cumulative 1 percentage point in the first half of 2011 and by another ¼ percentage point in May 2012. Reserves have steadily increased (by about $15 billion since end-2010 when the current FCL was approved) to broadly adequate levels. In addition, the NBP agreed a swap line with the Swiss National Bank to help cover liquidity needs in the event of major Swiss franc funding pressures.

  • The financial regulator (KNF) imposed tighter standards on household mortgage lending and higher risk weights for FX loans to households (100 percent compared to Basel requirement of 35 percent for mortgages and 75 percent for other retail exposures). Moreover, it requested banks to boost their capital and liquidity buffers to help mitigate an economic slowdown and liquidity risks. Work to establish a Systemic Risk Board that will implement a macro-prudential framework and to revamp the bank resolution regime is well underway.

4. Measures are also being taken to strengthen medium- and long-term fiscal sustainability. The recent pension reforms that gradually increase the retirement age in the core pension system (to 67 for both men and women, from 65 and 60, respectively) and in the uniformed services should contribute to Poland’s long-term fiscal sustainability, improve labor force participation (which in turn should boost potential growth), and help increase replacement rates in the pension system. The authorities have also continued to work on the design of a permanent fiscal expenditure rule with a debt brake, which should provide an anchor for fiscal policy and keep public debt at sustainable levels.

II. Recent Developments

5. The economy has slowed rapidly since early 2012, reflecting developments in the euro area (Figure 2). Growth moderated to 1.4 percent yoy in Q3 from 2.3 percent yoy in Q2 on account of weakening private consumption and fixed investment growth. Headwinds from Europe are taking a toll on business and consumer sentiment, and Polish firms have cut back on investment and hiring plans given continued uncertainty in Europe. The slowdown in euro area trading partners has also dampened exports. Recent data on business and consumer confidence, industrial production, and retail sales all point to deteriorating economic conditions. Private sector credit growth slowed to 5½ percent (from about 15 percent one year ago), with consumer lending falling.

Figure 2.
Figure 2.

Poland: Recent Economic Developments, 2008–12

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: Haver; Central Statistical Office; and IMF staff estimates.

6. The labor market has worsened and inflation has declined. The fiscal consolidation has led to a reduction in public sector employment while job creation in the private sector has remained anemic, pushing the unemployment rate up to around 10 percent and dampening wage growth. Overall price trends have reflected the weakening economy as well as slower food and energy price increases. Headline inflation eased to 2.8 percent in November 2012—close to the central bank’s target of 2.5 percent. Meanwhile, core inflation dropped to 1.7 percent in November from its peak of 3.1 percent in December 2011.

7. The current account deficit has narrowed slightly. It was financed almost fully by net foreign direct investment and capital transfers, but portfolio inflows into the public bond market also remained strong. Yields on government bonds have reached post-crisis lows, and CDS spreads are below 100 bps. At the same time, foreign liabilities in the banking system have declined, reflecting orderly funding withdrawal by parent banks.

8. Fiscal consolidation has continued. Public expenditures have evolved broadly in line with the consolidation program, but lower than expected VAT revenues led to some fiscal slippage. Nevertheless, recent data suggest that local governments are consolidating, and social security is doing slightly better than envisaged. Therefore, the fiscal deficit is expected to drop from 5.0 percent of GDP in 2011 to about 3½ percent of GDP in 2012. The government is on track to pre-finance 20-25 percent of its 2013 borrowing needs by end-2012.

9. Despite the recent decline in external funding, the banking system has remained stable (Figure 3). Capital adequacy ratios are around 14 percent (with Tier 1 capital representing 90 percent of total capital) and overall liquidity is ample, but the NPL ratio rose to 8¾ percent. Profits have remained healthy, despite increased provisioning and a decline in interest margins. At the same time, banks’ liabilities to foreign financial institutions have declined by about $17 billion since mid-2011—a pace not seen since 2008-09. An FSAP update is scheduled for early 2013 to assess financial stability issues and financial sector development in Poland.

Figure 3.
Figure 3.

Poland: Banking Sector Developments, 2007–12

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: KNF;NBP; and IMF staff estimates.

III. Outlook and Near-Term Policies

10. The economy is expected to moderate further in 2013. With slowing economic activity in key trading partners (e.g. Germany), annual GDP growth is projected to decelerate to 2.2 percent in 2012 and further to 1.7 percent in 2013 (a downgrade from the October 2012 WEO forecast). Firms are expected to continue to postpone investment and hiring decisions, adding to the effects of the decline in public investment. Household consumption should remain tepid, reflecting weak labor market conditions and tighter credit availability. Sluggish domestic demand should reduce import growth, helping to keep the current account deficit below 4 percent of GDP.

Poland: Real GDP Growth Projections, 2012–15

(Percent)

article image
Sources: IMF staff estimates.

11. Risks to the outlook are on the downside. Poland would be affected by adverse shocks through substantial trade and financial linkages with Europe. The banking system is still exposed to FX-induced credit and liquidity risks and the risk of disorderly deleveraging by parent banks. Continued uncertainty could undermine firms’ willingness to invest and hire, which would have knock-on effects on consumption, deepening the growth slowdown, and delaying the recovery.

uA01fig01

Prospects for Poland Growth

(in percent)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: Oct. 2012 WEO, and IMF staff estimates.Note: The confidence interval is calculated based on the WEO fan chart on prospects for world GDP growth, and staff estimation, based on historical data, that a one percentage point fall in global growth would lead to a decline in Poland’s growth by about 0.7 percentage point.

12. Against this background, the policy mix appropriately consists of an easing monetary stance while allowing fiscal automatic stabilizers to operate. In particular:

  • The 2013 budget balances further fiscal adjustment and support for the economy. It continues the structural consolidation (with measures of about ½ percent of GDP) while allowing automatic stabilizers to mitigate the slowdown. Staff estimates that the fiscal deficit should edge down to about 3.4 percent of GDP in 2013, while public debt (ESA95 definition) would reach about 56 percent of GDP. In addition, to boost investment, the authorities have announced a new program, consisting of guarantees for SME lending (up to a total of 3½ percent of GDP over 2 years) and a government investment fund (the size of which is still under discussion). Over the medium term, additional fiscal consolidation measures of about 1 percent of GDP would be needed to achieve the authorities’ medium-term objective (MTO) of a structural deficit of 1 percent of GDP and put debt firmly on a downward path.

  • The MPC has started an easing cycle: policy interest rates were cut by a cumulative ½ percentage point since November 2012. Inflation is expected to fall to the target in early 2013, reflecting the economic slowdown, muted wage pressures, and slowing credit growth. The authorities are mindful of financial market volatility and stand ready to provide liquidity in both zloty and FX if the banking sector experiences acute liquidity shortages.

Estimated Yields of Main Fiscal Measures 2013 1/

in percent of GDP

article image

Yields are computed as incremental from 2012; totals may not add up due to rounding.

Sources: Authorities and IMF staff calculations.

13. Financial sector policies have helped improve the resilience of the banking system. Previous measures are finally bearing fruit: the flow of new FX mortgages has declined considerably and banks are becoming less reliant on external funding (which is necessary over time, but which could become destabilizing if the process becomes disorderly). The authorities continue to closely monitor credit and liquidity risks. They have continued to work on the design of the macroprudential framework and the revamped bank resolution toolkit. The KNF has announced plans to loosen some regulations on household credit, citing the need to help alleviate constraints on credit supply and reduce incentives for households to seek loans from unsupervised institutions. The FSAP update will assess the impact of these measures, including in the context of rising NPLs.

IV. The Role of The Flexible Credit Line

14. The authorities have underscored that precautionary access to the FCL has served their economy well. They noted that the FCL arrangements allowed for a more flexible policy response to the global crisis while preserving favorable access to markets, even during periods of elevated uncertainty and volatility (Figure 4). The first FCL arrangement provided useful insurance in the aftermath of the 2008-09 global crisis. Subsequent FCL arrangements supported the continuation of these positive trends by cushioning the impact of the crisis in the euro area. They also provided time for the authorities to begin to rebuild policy buffers and further strengthen Poland’s institutional frameworks. Overall, the authorities believe that the FCL has played a critical stabilizing role for Poland, as evidenced by a real effective exchange rate and current account that have remained broadly consistent with fundamentals (according to the assessment in the Pilot External Sector Report).

Figure 4.
Figure 4.

Poland: The FCL’s Impact on Financial Markets, 2009-12

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: Bloomberg; Polish Ministry of Finance; Dealogic; and IMF staff estimates.
uA01fig02

CPI-based Real Effective Exchange Rate

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Source: IMF, IFS.
uA01fig03

Current Account Balance

(Percent of GDP, four quarter rolling sum)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: CEIC; and IMF staff estimates.

15. The authorities are requesting a new FCL arrangement with proposed access of SDR 22 billion (about $34 billion) and cancellation of the current arrangement. They consider that it remains too soon for Poland to exit from the FCL arrangement, given the heightened external risks. The requested higher access in nominal terms implies quota access of 1303 percent, compared with quota access of 1135 percent now and 1400 percent at the time of approval of the current FCL (Poland’s quota increased during the current arrangement). This level of access would provide adequate insurance against heightened risks to Poland’s balance of payments. The authorities are of the view that a larger insurance policy would allow more time for shocks to dissipate and for continued rebuilding of policy buffers, while preserving investor confidence and supporting macroeconomic policies going forward.

16. The authorities are committed to exiting from the FCL arrangement as external risks recede. As noted above (¶3), progress has been made in preparing for exit, and the authorities remain committed to maintaining very strong policies. They underscored their intention to continue to rebuild policy space to counter adverse shocks, notably through ongoing fiscal consolidation at a pace appropriate for the economic cycle, an appropriate monetary policy stance, and continued vigilance regarding the state of the banking system. At the same time, given the slowing economy and heightened external risks, the authorities believe that the FCL will provide important “breathing space” for Poland to continue to build buffers at a pace consistent with economic and financial conditions. In this regard, they emphasized that they have been building reserves under the current FCL arrangement and that they intend to continue to do so to ensure that reserve adequacy is maintained, as they see this as an essential part of their exit strategy. They are of the view that these steps will help prepare for a timely exit from the FCL arrangement when external conditions improve.

A. Access Considerations

17. Heightened risks to the balance of payments remain a key concern for Poland and justify the need for a higher buffer. Notably, the risk of further outflows from the banking system (parent banks are withdrawing funding at a significant pace after a resumption of inflows in 2010 and the first half of 2011) and the possibility of reduced portfolio inflows into the government bond market (growing foreign participation in the government bond market makes Poland increasingly vulnerable to global shocks).

  • Despite the recent respite in financial market stress, the external environment has remained unsettled since the current FCL arrangement was approved in January 2011. This view is consistent with recent GFSR and WEO analysis. The October 2012 GFSR finds increased risks to the global financial system, with the euro area crisis the principal source of concern. Similarly, the October 2012 WEO sees downside risks as more elevated than in the April 2012 and September 2011 reports, citing escalation of the euro area crisis as one of the most pertinent risks.

uA01fig04

Components of Financial Stability Map

(Away from center signifies higher risks, easier monetary and financial conditions, or higher risk appetite.)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

  • Poland’s financial links to Europe make it vulnerable to disorderly deleveraging (Figure 5). In particular, foreign bank claims on Poland amounted to 59 percent of GDP at the end of 2011 according to BIS consolidated data, and over 90 percent of Polish banks’ external liabilities to foreign financial institutions are to parent banks. The overall situation of the parents of the main banks operating in Poland has become more uncertain since the current FCL arrangement was approved: home countries’ sovereign bond spreads and realized volatility of parent bank equity prices have increased. Partly reflecting this, parent banks have withdrawn funding from their Polish subsidiaries over the past year. This is consistent with broad regional trends, which suggest that funding withdrawal is affecting a number of countries in Central and Eastern Europe. More generally, funding from Western Banks to the CEE region is significantly greater—relative to GDP—than that of other regions (based on BIS data), suggesting that the impact of funding withdrawal could be more severe.

Figure 5.
Figure 5.

Poland: Exposure to Banks’ Funding Withdrawal

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: Haver; BIS, Locational Banking Statistics; and IMF staff estimates.1/ Weighted by 2011 share of bank assets.
uA01fig05

Emerging Market Regions: External Positions of BIS-reporting Banks

(Percent of GDP)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: BIS, Locational Banking Statistics; IMF, WEO; and IMF staff estimates.

  • Poland’s gross external financing needs (projected at 22 percent of GDP per year in both 2013 and 2014) remain very large. Despite the significant fiscal consolidation, the public sector’s reliance on external financing has increased steadily as Poland has experienced significant portfolio inflows into the zloty government bond market (foreign holdings of domestic government bonds have increased by $20 billion since end-2010). Private short-term debt amortization needs also remain high in both the non-financial private sector and the banking sector. The sizeable portfolio inflows, combined with Poland’s status as a “gatekeeper” for the region and its relatively deep and liquid financial markets, make it increasingly vulnerable to a retrenchment in global risk appetite. Data on inflows into bond funds suggest that Poland has experienced more volatility in these flows than most other countries in the region, including neighboring Hungary, particularly in the post-2008 period. This relatively high volatility is, in staffs view, related to the depth and liquidity of its financial markets and investors’ willingness to take positions in Polish assets as a way to express views on the region.

uA01fig06

Monthly Bonds Funds Flows

(Millions of US dollars)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Source: EPFR Bonds Funds Country Flows.

  • Poland’s significant trade links to Europe make it susceptible to a protracted slowdown in Europe. Growth forecasts for Poland, all of its major trading partners, and the Central and Eastern European region more broadly are lower than when the current FCL arrangement was approved, with considerable downside risks. Indeed, in 2013, Poland is expected to experience its worst growth performance since 2009.

uA01fig07

Growth Forecast for Poland’s Major Trading Partners

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

1/ Trading partners’ growth weighted by exports share.

Real GDP Growth Projections for Poland and Region, 2013–2014

(In percent)

article image
Sources: IMF, WEO; and IMF staff estimates. Note: All aggregates are weighted by GDP valued at purchasing-power-parity (PPP).

Projection for Poland at the time that the current FCL arrangement was approved.

Projection for Poland is current staff projection.

Includes Bulgaria, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Slovak Republic, and Slovenia.

  • With weakening growth, Poland may be more vulnerable to shocks, particularly with respect to bank deleveraging. While it is difficult to establish causality, and despite Polish banks’ relative success in increasing reliance on domestic sources of funding (notably deposits), there remains a very strong association between credit growth and parent funding to banks, suggesting that deleveraging can still have far-reaching effects on economic performance. Indeed, the current growth slowdown is characterized by a weaker credit growth. While the deleveraging process has so far been orderly, Poland—like other countries in Central and Eastern Europe—remains at risk of disorderly deleveraging, which would further exacerbate these effects.

  • In this context, even though the authorities have continued to strengthen macroeconomic buffers for a timely exit from the FCL arrangement, continued access to the FCL on an augmented (though still precautionary) basis would help strengthen Poland’s resilience to external shocks.

uA01fig08

Comovement of Banks’ External Liabilities to Financial Sector to Bank Credit Growth

(Percent)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: Haver; and IMF staff estimates.

18. Access under the successor arrangement is predicated on potential drains under a plausible adverse scenario. With heightened risks to Poland’s balance of payments (particularly with respect to banking sector funding and portfolio capital flows), and notwithstanding a broadly adequate level of international reserves relative to standard metrics and peers (although Poland is below median on coverage of short-term debt plus current account deficit), access of about 1303 percent of quota would be needed to provide credible assurance of sufficient liquidity under an adverse scenario. The assumptions underpinning this adverse scenario are broadly in line with those under the request for the 2011 FCL arrangement, with one exception. Notably, this adverse scenario assumes somewhat larger banking sector outflows, reflecting the observed data in the banking sector over the past year (Box 1). The adverse scenario encompasses plausible shocks that are comparable to other FCL cases (Figure 6). They imply potential financing gaps of $33.7 billion and $34.8 billion in 2013 and 2014, respectively.

Figure 6.
Figure 6.

FCL Cases Compared with Distribution of Historical Shocks to Emerging Market Economies

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Source: IMF staff estimates.

19. Staff believes that heightened risks to the balance of payments justify access in the requested amount. Continued global uncertainties, heightened external risks, and risks of banking sector outflows and lower portfolio inflows justify the need for a higher buffer against risks, notwithstanding Poland’s very strong fundamentals and sustained track record of implementing very strong policies. Even with higher access, the successor FCL arrangement would still provide coverage of gross external financing needs that is well within the range of other FCL arrangements. The proposed access of SDR 22 billion (equivalent to $33.9 billion) for a period of two years would cover potential drains under an adverse scenario, while continuing to signal policy credibility and helping to maintain investor confidence.

uA01fig09

FCL and Gross Financing Requirement

(Billions of US dollars)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: WEO; and IMF staff estimates.1/ 2013 for Colombia assuming the current FCL arrangement.2/ Average of 2013 and 2014.

Adverse Scenario

The starting point of designing the adverse scenario is staff’s latest baseline forecast, in which Poland’s gross external financing needs continue to be very large. The baseline forecast incorporates significant FDI inflows (consistent with recent experience), ample short-term (ST) and medium and long-term (MLT) external financing for both government and private sector (also consistent with recent experience), and a moderation in the pace of funding withdrawal by parent banks. Baseline rollover rates are projected at about 160 percent for the public sector and around 105 percent for the private sector. As a result, reserve accumulation is projected to be around $10 billion per year over 2013–14.

The adverse scenario assumes concurrent shocks to various components of Poland’s balance of payments. These assumptions are broadly in line with those under the 2011 FCL request, with the exception that this scenario includes more severe shocks to banking flows, reflecting recently observed outflows from Polish banks. The adverse scenario encompasses plausible shocks that are comparable to other FCL cases and historical data on shocks to emerging market economies.

The main assumptions underlying the adverse scenario are as follows:

  • A fall in FDI inflows of 25 percent and equity portfolio outflows of around 90 percent relative to baseline assumptions. These are the same shock assumptions as under the 2011 FCL request. They are in line with the decline in FDI observed in 2009 and the large equity outflows observed after Lehman Brothers’ bankruptcy.

  • A decline in rollover rates of around 25 percentage points for non-financial private sector ST and MLT debt and public sector MLT debt relative to the baseline assumptions. ST public debt is assumed to be more than fully rolled over. Rollover rates applied to MLT private and public debt are close to the mean of historical rollover rates for emerging market countries.

  • A somewhat larger shock was applied to banking flows, reflecting deleveraging which has taken place over 2011Q2-2012Q2. The scenario assumes a 40 percentage point decline in rollover rates (versus a decline of about 25 percentage points under the 2011 FCL request), and a reduction in other investment flows, mostly from non-resident deposits, of $5 billion. The nominal sum of the reduced ST bank rollovers and other investment flows amount to about $11.6 billion. This is similar to the $12 billion sum of outflows assumed under the adverse scenario underpinning the 2011 FCL request, and is somewhat lower than the observed reduction in other ST investment flows over both 2008Q1-2009Q2 and 2011Q3-2012Q2.

  • In order to maintain adequate reserves, the scenario also maintains the same assumption as in the 2011 FCL request of half of the expected reserves build up under the baseline.

uA01fig10

Net Other Investment Flows: Actual and Projections

(Billions of US dollars)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: NBP; and IMF staff estimates.1/ Primarilydriven by reduction in bank-related flows such as external deposits.2/ Nominal sum of the reduced short-term bank rollovers and other investment flows (see Box 1 for adverse scenario).

Poland – External Financing Requirements and Sources, 2010–14

(In million of U.S. dollars)

article image
Sources: National authorities and staff estimates and projections.

Poland: Proposed Access Relative to Other High-Access Cases

article image
Sources: Executive Board documents, MONA database, and Fund staff estimates.

High access cases include available data at approval and on augmentation for all the requests to the Board since 1997 which involved the use of the exceptional circumstances clause or SRF resources. Exceptional access augmentations are counted as separate observations. For the purpose of measuring access as a ratio of different metrics, access includes augmentations and previously approved and drawn amounts.

Correspond to quotas prior to 2008 Reform.

The data used to calculate ratios is the actual value for the year prior to approval for public, external, and short-term debt, and the projection at the time of program approval for the year in which the program was approved for all other variables (projections for 2012 were used).

Includes net private transfers.

Refers to net debt.

Refers to residual maturity.

B. Review of Qualification

20. Staff believes that Poland fully meets the qualification criteria identified in ¶2 of the FCL decision (Figure 7). Poland’s very strong economic fundamentals and institutional policy framework, together with its sustained track record of implementing very strong policies, have allowed the authorities to retain market credibility while adjusting economic policies in a timely and effective manner during the global crisis. Furthermore, the authorities remain committed to maintaining very strong policies. Indeed, Poland’s achievements and policies have been recognized by the Executive Board, most recently in the 2012 Article IV Consultation concluded on July 2, 2012. As to the relevant criteria for the purpose of assessing qualification for a successor FCL arrangement identified in ¶2 of the FCL decision, staff’s assessment is as follows:

Figure 7.
Figure 7.

Poland: Qualification Criteria

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: Bloomberg; Poland authorities; and IMF staff estimates.1/ Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance.

  • A sustainable external position: Poland’s external position is broadly consistent with medium-term fundamentals and appropriate policies (as highlighted in the Pilot External Sector Report). Model-based estimates support the assessment that the current account and the REER are broadly aligned with fundamentals. Net IIP liabilities are large, but are mostly comprised of diversified FDI liabilities and intra-company lending. External debt is projected to peak at around 69 percent of GDP in 2012 and to gradually decline thereafter (Figure 8). Moreover, the sustainability of the external debt position is generally robust to a range of standard stress scenarios.

  • A capital account position dominated by private flows: The bulk of capital flows to Poland continue to originate from the private sector, with official creditors accounting for only 6 percent of the external debt as of 2012Q2.

  • A track record of steady sovereign access to international capital markets at favorable terms: Poland has continued to enjoy one of the highest credit ratings among emerging markets, which it has maintained despite the prolonged financial uncertainties in the region. The government bond market has been resilient, receiving inflows even in the turbulent second half of 2011, and sovereign CDS and bond spreads have declined to below 100 bps and 150 bps, respectively (the former at similar levels to the Czech Republic). On October 3, the government issued a EUR1.75 billion 12-year benchmark bond, with a yield of 3.39 percent, 143 bps above the mid-swap rate.

  • Relatively comfortable reserve position: International reserves remain broadly adequate, exceeding most indicators of reserve adequacy, including the IMF reserve adequacy metric, but are short of 100 percent of short-term debt at remaining maturities plus current account deficit (Figure 9). The current elevated external risks imply the need for additional insurance in the form of the FCL.

  • Sound public finances, including a sustainable public debt position: In 2011, substantial fiscal consolidation helped to reduce the fiscal deficit from 7.9 percent of GDP in 2010 to 5.0 percent in 2011. Additional consolidation is expected to reduce the deficit further to 3½ percent of GDP in 2012. Public debt (ESA95 definition) is expected to increase to around 56 percent of GDP in 2013. Based on announced measures, staff projects that public debt will fall to about 54 percent of GDP in 2017 (Figure 10). The reform to increase the retirement age to 67 would improve Poland’s long-term fiscal sustainability.

  • Low and stable inflation, in the context of a sound monetary and exchange rate policy framework: After peaking in late 2011, headline inflation has been falling towards the NBP’s target (2½ percent). The authorities remain committed to preserving their credible and transparent inflation-targeting framework.

  • The absence of bank-solvency problems that pose an immediate threat of a systemic banking crisis: Poland’s banking system remains well capitalized (capital adequacy ratio of 14 percent), liquid (liquid assets/total assets of 20 percent), and profitable (return on assets of 1.2 percent) (Table 6). However, Poland is highly exposed to banks in euro area, which is an important source of risk.

  • Effective financial sector supervision: According to the 2011 Basel Core Principles (BCP) assessment, Poland’s supervisory framework is effective. This is also evidenced by the KNF’s effective response during and since the crisis, including the increased intensity of supervisory processes in line with the recommendations of the 2011 BCP assessment.

  • Data transparency and integrity: The overall quality of Poland’s macroeconomic data remains good, consistent with the findings of the 2003 data ROSC, and Poland remains in observance of the Special Data Dissemination Standards. Over 2011Q3-2012Q2, errors and omissions amounted to one percent of GDP—a large improvement compared to the level of 3.7 percent of GDP (pre-revision) in 2010. The authorities continue to work to improve their methodology in an effort to further reduce errors and omissions.

Figure 8.
Figure 8.

Poland: External Debt Sustainability: Bound Tests 1/ 2/

(External debt in percent of GDP)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: International Monetary Fund, Country desk data, and staff estimates.1/ Shaded areas represent actual data. Individual shocks are permanent one-half standard deviation shocks. Figures in the boxes represent average projections for the respective variables in the baseline and scenario being presented. Ten-year historical average for the variable is also shown.2/ For historical scenarios, the historical averages are calculated over the ten-year period, and the information is used to project debt dynamics five years ahead.3/ Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance.4/ One-time real depreciation of 30 percent occurs in 2012.
Figure 9.
Figure 9.
Figure 9.

Poland: Metrics of Reserve Coverage in a Cross-Country Perspective, 2011

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: World Economic Outlook, Balance of Payments Statistics Database, and IMF staff estimates.1/ The ARA metric was developed by the Strategy, Policy, and Review Department to assess reserve adequacy. The blue lines denote the 100-150 percent range of reserve coverage regarded as adequate for a typical country under this metric.2/ Portfolio liabilities only available until 2010.Note: Black line represents the cross-country median.
Figure 10.
Figure 10.

Poland: Public Debt Sustainability: Bound Tests 1/ 2/

(Public debt in percent of GDP)

Citation: IMF Staff Country Reports 2013, 021; 10.5089/9781475591422.002.A001

Sources: International Monetary Fund, country desk data, and staff estimates.1/ Shaded areas represent actual data. Individual shocks are permanent one-half standard deviation shocks. Figures in the boxes represent average projections for the respective variables in the baseline and scenario being presented. Ten-year historical average for the variable is also shown.2/ For historical scenarios, the historical averages are calculated over the ten-year period, and the information is used to project debt dynamics five years ahead.3/ Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and primary balance.4/ One-time real depreciation of 30 percent and 10 percent of GDP shock to contingent liabilities occur in 2010, with real depreciation defined as nominal depreciation (measured by percentage fall in dollar value of local currency) minus domestic inflation (based on GDP deflator).

21. The authorities’ letter (Attachment) highlights their continued commitment to implementing very strong macroeconomic policies. The government is committed to continuing a balanced approach—implementing conservative fiscal policy in the years to come but at the same time actively supporting economic growth in the private sector. The authorities will continue to closely monitor the financial system, and are in the process of establishing a Systemic Risk Board to implement macroprudential policies. They intend to treat the new FCL as precautionary and to take steps to further rebuild macroeconomic buffers and international reserves to facilitate an exit from the FCL when external conditions improve.

V. Impact on Fund Finances, Risks, and Safeguards

22. The impact of the proposed arrangement on Fund liquidity is assessed to be manageable. The proposed FCL arrangement in the amount of 1303 percent of quota (SDR 22 billion) would constitute a large individual commitment of Fund resources. However, the level of the Fund’s liquidity is expected to remain relatively comfortable by historical standards after the approval of the proposed FCL arrangement for Poland—see supplement assessing the impact on the Fund’s finances and liquidity position.

Poland: Indicators of Fund Credit, 2013–18

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Sources: IMF Finance Department; Polish authorities; and IMF staff estimates.

End of Period. Assumes full drawing upon FCL approval in early 2013, which implies that repayment starts in 2016. The Polish authorities have expressed their intention to treat the arrangement as precautionary. At an SDR/USD rate of 0.650095 as of October 30, 2012.

Excludes IMF purchases.

Based on the rate of charge as of September 14, 2012. Includes surcharges under the system currently in force and service charges.

23. Poland’s capacity to repay the Fund is strong. The authorities have indicated that they intend to continue to treat the arrangement as precautionary. Nevertheless, even if a full drawing under the FCL arrangement were made, Poland’s capacity to fulfill its financial obligations to the Fund should be manageable. Poland has an excellent track record of meeting its obligations to the Fund, the government has a deep commitment to macroeconomic stability and prudent fiscal policies, and the economy’s medium-term growth prospects remain strong. Moreover, even if the adverse scenario were to materialize, Poland’s external debt would stay on a sustainable medium-term path, with debt service remaining manageable.

24. Staff concluded the safeguard procedures applicable to FCL arrangements for the current FCL arrangement approved in January 2011 and found no significant safeguards issues. Under these procedures, staff reviews the outcome of the most recent external audit of the NBP. In light of Poland’s request for a successor FCL, the NBP provided the updated authorization needed for safeguards procedures to be conducted by Fund staff in line with the specific safeguards requirements for FCL arrangements.

VI. Staff Appraisal

25. The FCL arrangement for Poland has provided significant insurance against external risks. It allowed for a more flexible policy response to the global crisis while preserving favorable access to markets, even during the time of elevated uncertainty and volatility. It also provided time for the authorities to begin to rebuild policy buffers and further strengthen Poland’s institutional frameworks.

26. Staff assesses that Poland continues to meet the qualification criteria for access to FCL resources. Poland’s economy performed well in the face of a challenging external environment, attesting to its very strong economic fundamentals and its sustained track record of implementing very strong policies. Furthermore, the authorities remain committed to maintaining very strong policies that preserve macroeconomic stability—exemplified by the policy plans detailed in their letter. This provides strong reassurance that economic policies will remain sound.

27. In light of heightened risks to Poland’s balance of payments, staff recommends approval of a two-year FCL arrangement for SDR 22 billion (1303 percent of quota). Staff believes that the proposed higher access in nominal terms is justified by heightened external risks, the risk of further outflows from the banking system, and the possibility of reduced portfolio inflows into the government bond market in the event of an adverse shock. The current challenging growth environment may also make Poland more vulnerable to shocks. Even with higher access, the FCL arrangement would still provide coverage of Poland’s gross financing needs that is well within the range of other FCL arrangements. The successor FCL arrangement would continue to support the authorities’ overall macroeconomic strategy and bolster Poland’s external buffers. The authorities’ intention to continue to rebuild policy space to counter adverse shocks provides comfort that they will be prepared for a timely exit from the FCL arrangement when external conditions improve.

28. Staff judges the risks to the Fund arising from a successor FCL arrangement for Poland to be manageable. Risks to the Fund are contained by the strong policy setting, the authorities’ intent to treat the arrangement as precautionary, and their very strong debt-servicing record and sustainable external debt path.

Table 1.

Poland: Selected Economic Indicators, 2010–17

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Sources: Polish authorities; and IMF staff estimates.

Real GDP is calculated at constant average prices of previous year.

According to ESA95 (inc. pension reform costs). Including 2013 budget.

Excluding debts of the National Road Fund.

NBP Reference Rate (avg). For 2012, as of Dec 5.

For 2012, exchange rate as of Dec 14.

Annual average (2000=100). For 2012, Jan-Aug average.

Table 2.

Poland: Balance of Payments on Transaction Basis, 2009-17

(Millions of US dollars)

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Sources: National Bank of Poland; and IMF staff estimates.

Projected reserve level for the year over short-term debt by remaining maturity.

Exports of goods and services.

Excluding repurchase of debt and including deposits.

Table 3.

Poland: Statement of Operations of General Government, 2009-17

(In percent of GDP)

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Sources: Eurostat and IMF staff projections.

Includes grants.

Table 4.

Poland: External Financing Requirements and Sources, 2008–14

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Sources: National authorities and staff estimates and projections.
Table 5.

Poland: Monetary Accounts, 2006-12 (eop)

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Sources: National Bank of Poland, IFS, Haver, and IMF staff estimates.
Table 6.

Poland: Financial Soundness Indicators, 2007–12

(In percent)

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Sources: National Bank of Poland; and KNF.

Data for domestic banking sector.

Table 7.

Poland: Public Sector Debt Sustainability Framework, 2007–2017

(In percent of GDP, unless otherwise indicated)

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General governement gross debt, ESA95 definition.

Derived as [(r - π(1+g) - g +αε(1 +r)]/(1+g+π+gπ)) times previous period debt ratio, with r = interest rate; π = growth rate of GDP deflator; g = real GDP growth rate;α = share of foreign-currency denominated debt; and ε = nominal exchange rate depreciation (measured by increase in local currency value of U.S. dollar).

The real interest rate contribution is derived from the denominator in footnote 2/ as r - π (1+g) and the real growth contribution as -g.

The exchange rate contribution between 2007–11 is according to official estimates; afterward is derived from the numerator in footnote 2/ as αε(1+r).

For projections, this line includes exchange rate changes.

Defined as public sector deficit, plus amortization of medium and long-term public sector debt, plus short-term debt at end of previous period.

The key variables include real GDP growth; real interest rate; and primary balance in percent of GDP.

Derived as nominal interest expenditure divided by previous period debt stock.

Assumes that key variables (real GDP growth, real interest rate, and other identified debt-creating flows) remain at the level of the last projection year.

Table 8.

Poland: External Debt Sustainability Framework, 2007–2017

(In percent of GDP, unless otherwise indicated)

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Derived as [r - g - ρ(1+g) + εα(1+r)]/(1+g+ρ+gρ) times previous period debt stock, with r = nominal effective interest rate on external debt; ς = change in domestic GDP deflator in US dollar terms, g = real GDP growth rate, ε = nominal appreciation (increase in dollar value of domestic currency), and α = share of domestic-currency denominated debt in total external debt.

The contribution from price and exchange rate changes is defined as [-ρ(1+g) + εα(1+r)]/(1+g+ρ+gρ) times previous period debt stock. ρ increases with an appreciating domestic currency(ε > 0) and rising inflation (based on GDP deflator).

For projection, line includes the impact of price and exchange rate changes.

Defined as current account deficit, plus amortization on medium- and long-term debt, plus short-term debt at end of previous period.

The key variables include real GDP growth; nominal interest rate; dollar deflator growth; and both non-interest current account and non-debt inflows in percent of GDP.

Long-run, constant balance that stabilizes the debt ratio assuming that key variables (real GDP growth, nominal interest rate, dollar deflator growth, and non-debt inflows in percent of GDP) remain at their levels of the last projection year.

Attachment 1

Warsaw, January 3, 2013

Ms. Christine Lagarde

Managing Director

International Monetary Fund

Washington, DC 20431

Dear Ms. Lagarde,

The Polish authorities believe that despite the strong fundamentals of the Polish economy, external risks remain high, and the IMF’s Flexible Credit Line (FCL) will continue to be instrumental in reducing those risks in case of a tail event. The previous FCL arrangements have proven to serve Poland’s economy well. Amid negative spillovers from financial and economic turbulence in the external environment, the FCL has provided Poland with valuable insurance.

As noted in the last Article IV consultation, in spite of the uncertain external environment, Poland’s macroeconomic fundamentals have remained strong, underpinned by sound and prudent macroeconomic policies and policy frameworks, supported by the FCL arrangements. Over the past four years, Poland has enjoyed the highest economic growth among OECD countries, despite global economic slowdown. Inflation has been kept in check. From 2011 the authorities have undertaken strong fiscal consolidation efforts and reduced the general government deficit from 7.9 percent of GDP in 2010 to approximately 3.5 percent of GDP this year. In addition to enhancing the financial buffers, the authorities’ policies have supported an increase in the country’s foreign exchange reserves to above USD 100 billion.

As a result the country has enjoyed access to international markets. Within the last three years Poland has experienced very strong foreign portfolio inflows, driving up the share of nonresident investors in Treasury securities issued on the domestic market. A flexible exchange rate regime has served the economy well, providing a necessary cushion against external shocks.

Supported by a strong regulatory and supervisory framework, the banking sector has remained robust, very well capitalized and conservative with a Tier 1 capital ratio above 12.5 percent and a leverage ratio above 8 percent. The liquidity position of the banks is strong, and their reliance on foreign funding is moderate and gradually diminishing. Financial institutions continue to be closely monitored by the supervisory authorities and the macro-prudential framework has been enhanced. In line with the ESRB recommendations, a Systemic Risk Board will be established soon.

The government is committed to continuing a balanced approach – implementing conservative fiscal policy in the years to come but at the same time actively supporting economic growth in the private sector. These efforts are aimed at putting public debt on a downward path. Monetary policy will continue to be guided by the inflation targeting framework in the context of a floating exchange rate regime. Financial sector oversight will continue to be based on Poland’s sound regulatory and supervisory framework, whose anti-cyclical features will be strengthened. We will continue to respond as needed to any future shocks that may arise.

As a fully open economy strongly integrated with global markets, Poland is exposed to potential external shocks. Although macroeconomic policy in a number of countries has been strengthened, international conditions remain volatile and a sustainable path to recovery in those countries has yet to be established. The ongoing sovereign-debt crisis in the eurozone remains a particular source of risk for Poland. Despite present sound domestic policies and our commitment to maintaining very strong economic policies, if the external risks—underlined in the Fund’s flagship reports—materialize, Poland could suffer from a destabilizing outflow of foreign capital.

The authorities strongly believe that the renewed FCL for Poland would further play a stabilizing role not only for the country, but also for the Central and East European region as a whole, thus complementing the policy response which has been developed in the Euro Area.

Should external conditions improve significantly Poland will consider taking steps towards exiting from the FCL. We have made progress in preparing for an eventual exit from the FCL—notably by rebuilding policy space to counter adverse shocks, including through fiscal consolidation and reserve accumulation—and will continue to do so going forward. These efforts will help ensure that Poland will be in a position to exit from the FCL when external conditions allow.

In light of the above, we request the approval of a successor 24-month FCL arrangement for Poland in an amount equivalent to SDR 22 billion (1303 percent of quota) and wish to cancel the current arrangement approved on January 21, 2011 effective upon approval of the new FCL arrangement. We reaffirm our intention to treat this instrument as precautionary.

Sincerely Yours,

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1

Poland’s public debt rules are based on a national definition of public debt, which excludes debt of the national road fund and therefore differs from the ESA 95 definition of public debt.

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Cover IMF Staff Country Reports
Republic of Poland: Arrangement Under the Flexible Credit Line and Cancellation of the Current Arrangement—Staff Report; Staff Supplement; Press Release on the Executive Board Discussion; and Statement by the Executive Director
Author:
International Monetary Fund. European Dept.
Volume/Issue:
Volume 2013: Issue 021
Publisher:
International Monetary Fund
ISBN:
9781475591422
ISSN:
1934-7685
Pages:
48
DOI:
https://doi.org/10.5089/9781475591422.002
Figure 1.

Poland: Linkages and Spillovers
Figure 2.

Poland: Recent Economic Developments, 2008–12
Figure 3.

Poland: Banking Sector Developments, 2007–12

Prospects for Poland Growth

(in percent)
Figure 4.

Poland: The FCL’s Impact on Financial Markets, 2009-12

CPI-based Real Effective Exchange Rate

Current Account Balance

(Percent of GDP, four quarter rolling sum)

Components of Financial Stability Map

(Away from center signifies higher risks, easier monetary and financial conditions, or higher risk appetite.)
Figure 5.

Poland: Exposure to Banks’ Funding Withdrawal

Emerging Market Regions: External Positions of BIS-reporting Banks

(Percent of GDP)

Monthly Bonds Funds Flows

(Millions of US dollars)

Growth Forecast for Poland’s Major Trading Partners

Comovement of Banks’ External Liabilities to Financial Sector to Bank Credit Growth

(Percent)
Figure 6.

FCL Cases Compared with Distribution of Historical Shocks to Emerging Market Economies

FCL and Gross Financing Requirement

(Billions of US dollars)

Net Other Investment Flows: Actual and Projections

(Billions of US dollars)
Figure 7.

Poland: Qualification Criteria
Figure 8.

Poland: External Debt Sustainability: Bound Tests 1/ 2/

(External debt in percent of GDP)
Figure 9.

Poland: Metrics of Reserve Coverage in a Cross-Country Perspective, 2011
Figure 9.

Poland: Metrics of Reserve Coverage in a Cross-Country Perspective, 2011
Figure 10.

Poland: Public Debt Sustainability: Bound Tests 1/ 2/

(Public debt in percent of GDP)