Economic outlook

Poland enjoys a continued strong economic growth. In 2016 real GDP grew by 2.7 percent, i.e. broadly in line with potential output, yet somewhat slower than in the previous year, which was mainly due to temporarily lower absorption of EU funds after the expiration of the previous EU financial framework, a pattern shared by other EU member states. By the first quarter of 2017 GDP growth has already accelerated to 4 percent, driven mainly by increasing private consumption, supported by growth in employment and wages as well as child benefit payments (“Family 500 plus”). At the same time, improvement of consumers’ sentiment and better business confidence indicators boosted manufacturing and construction output and stabilized investment spending.

The economic growth in 2017 is expected to be broadly in line with potential output and to reach at least 3.6 percent, allowing for a gradual closing of the output gap. On the back of strengthening economic growth and firming labor market, the unemployment rate declined to a new historically low level of 4.8 percent in April 2017, and is expected to remain well below the EU average of 7.8 percent¹.

The government is focused on supporting a strong and inclusive growth while maintaining fiscal sustainability. The 2016 fiscal outcome was better than projected: the fiscal deficit declined to the lowest level since the global financial crises (GFC), reaching 2.4 percent of GDP. Revenues were higher than expected, driven by improved tax compliance, while expenditures underperformed due to weaker public investment. The financial sector remains sound with well capitalized institutions, and the level of non-performing loans (NPLs) has decreased further to 7 percent. Finally, headline inflation picked up last year to reach 1.9 percent in May 2017.

External Sector

External imbalance of the Polish economy is currently at a low level in historical terms. The current account (CA) deficit decreased in 2016 for the second consecutive year, to 0.3 percent of GDP, from 0.6 percent in 2015. This was among others due to improved terms of trade, and thanks to them the nominal surplus in trade of goods and services reached 3.7 percent of GDP. Polish exports benefit from economic revival of the euro area, especially at our main trade partner – Germany. In the last quarter of 2016, stronger exports to the euro area were additionally supported by a weaker currency. At the same time the transition from the 2007–13 to the 2014–20 EU financial perspective contributed – through lower inflow of funds – to a decrease in the capital account surplus.

The external position is consistent with medium-term policies and fundamentals. The gross reserves have increased further in 2016 to about 128 percent of ARA metric. Their level increased in USD-terms from 95 to about 114 billion, at end of 2016. The access to the precautionary Flexible Credit Line (FCL) offers additional protection against potential adverse risks. It has recently been lowered in consistence with the authorities’ exit strategy.

Fiscal Policy

The government’s strategic objective concentrates on supporting long-term, inclusive economic growth while maintaining sustainability of public finance and complying with domestic and EU fiscal rules. The government aims to mobilize more revenue through better tax compliance. Recently implemented or planned measures aimed at limiting tax fraud include i.a.:

• The General Anti-Avoidance Rule - in force since 2016;

• The Fuel Package - set of measures aimed at preventing tax fraud in intra-EU liquid fuel trade - in force since August 2016;

• Merging the tax and customs administration into the National Tax Administration – in force since March 2017;

• A detailed automated analysis of tax books (Standard Audit File) - in force;

• A system for monitoring of the road freight transport of certain sensitive goods (e.g. fuel, tobacco);

• A split VAT payment mechanism – planned from 2018.

Higher tax revenues gathered through these measures allow for financing new items on the expenditure side. They include the flagship family support program “Family 500 plus,” and lowering of the retirement age (planned from October 2017), with fiscal impact to be limited by stronger incentives for employees to remain longer in the labor market.

Moreover, in June 2016, the government adopted the “Assumptions to Budgetary System Reform”. The planned reform is aimed at inter alia strengthening medium- term budgetary framework, integrating annual and multiannual planning processes and institutionalization of spending reviews and other instruments supporting the efficiency of public spending.

In 2016, the general government deficit decreased further from 2.6 percent of GDP in 2015 to 2.4 percent of GDP (according to ESA 2010) reflecting higher tax revenues and an improved outturn in the local government and social security accounts. Tax revenues increased by 0.8 percent of GDP to 20.6 percent. It was the fourth highest improvement of the tax revenues in the EU. The general government debt amounted to 54.4 percent of GDP.

In 2017, the budget deficit is expected to reach 2.9 percent of GDP, mainly due to an increase in public investment. However, the government is planning to reduce the structural deficit gradually beginning from 2018, so as to reach the medium-term objective (MTO) – a structural deficit of 1 percent of GDP – just after 2020. The pace of consolidation will be determined by the automatic correction mechanism of the expenditure rule that requires a dynamic of expenditure by 1.5–2.0 percentage points lower than average GDP growth until the MTO will have been achieved and the public debt will have been reduced below 43 percent of GDP. Achieving the MTO will be supported by further initiatives aimed at improving tax administration.

Monetary Policy

From July 2014 to October 2016, Poland experienced a CPI deflation caused mainly by the drop in global commodity prices (energy and food). The average level of consumer prices in 2016 was 0.6 percent lower than in 2015. With the global rebound of commodity prices, inflation in Poland increased to 1.9 percent in the first quarter of 2017. Despite falling unemployment and faster economic growth, core inflation remains low (0.8 percent as of May), indicating a low demand pressure and limited pass-through from tightening labor market to wage and price dynamics. Inflation is forecast to reach 1.8 percent in 2017; and gradually move towards the central bank target of 2.5 percent over the next two years.

The central bank has left its main policy interest rate unchanged since March 2015, at 1.5 percent. Keeping interest rates stable, yet markedly higher than in other EU countries, has supported macroeconomic balance and price stability. The authorities perceive holding the policy rate on hold as appropriate at least until the end of 2017; they agreed with the staff that the policy decisions should be data driven and inflationary pressures should be monitored. They underline their commitment to timely actions in the event of any changes that would jeopardize the inflation objectives.

Financial Sector

Financial sector in Poland remains resilient and stable, with solvency ratios well-exceeding regulatory minimum. Financial institutions are well-capitalized and liquid. Banks continued to strengthen by increasing capital adequacy ratio from 16 percent in 2015: Q4 to 17.2 percent in 2016: Q4 and the average Tier 1 capital ratio by 1 percentage point (from 14.6 to 15.6 percent in the same period). This further increases the level of resiliency in case of adverse shocks and is in line with recommendations from the Financial Supervisory Authority (KNF). The liquidity of banks also improved, due to higher household and corporate deposit growth. Finally, the non-performing loans (NPLs) dropped to 7 percent of total loans.

Financial institutions’ position reflects the current low interest rate environment, with operating costs rising. Despite gradual strengthening of the lending standards, credit supply continued to grow. The growth of housing and consumer loans was mainly driven by further improvement in the labor market and rising incomes, while decrease of the growth rate of corporate loans was underpinned by a slowdown in the segment of loans to large enterprises. Increased economic growth, further improvement on the labor market and an increase in individual consumption point to the credit cycle in Poland moving through the juncture of recovery and expansion phases in 2017. Growth of lending should also be supported by expected higher utilization of the EU funds.

The authorities are reviewing possible options to address the issue of the FX mortgage loans. While the FX mortgage portfolio does not generate systemic risks and such loans are being serviced on time, the authorities are seeking the most efficient solution to address consumer protection concerns. There is agreement among the authorities that no solution implemented should endanger financial stability. The appreciation of the Swiss franc led to initiatives of legislative intervention into contractual provisions arising from FX mortgages. Three such bills are now being proceeded in the Parliament, these include a proposal of refunding a part of FX spreads prepared by the Chancellery of the President, and a Parliament’s draft on a statutory conversion of FX mortgages. In addition, the Financial Stability Committee (KSF) in January 2017 stated that any restructuring should be on a voluntary basis and statutory conversions are not a proper course of action. The Committee released nine recommendations, which aim to encourage banks to convert FX mortgages into Polish zloty denominated ones, by providing measures facilitating voluntary restructuring. Work on solutions is ongoing and final decisions and implementation of the package of measures to address FX mortgages are expected to be concluded by the end of 2017 or in early 2018.

Government declared a strategy to increase share of domestic ownership in the banking sector, to strengthen its stability and capacity to absorb external shocks. In December 2016, the major Polish insurance company, PZU, together with Polish Development Fund (PFR), signed the agreement to purchase a 32.8 percent stake in Bank Pekao from UniCredit, and the transaction was completed in June 2017.

Structural Reforms

The authorities are strongly committed to the implementation of structural reforms. This attitude is best expressed by the introduction of the Responsible Development Strategy (RDS), the first comprehensive initiative aimed at addressing structural reform gaps. The main objective of the RDS is to provide sustained and inclusive economic, social, environmental and regionally-spread growth. Strategy is presenting a set of strategic objectives, supplemented by the flagship projects and monitoring tools. It provides inter alia for increasing the potential of the economy through re-industrialization, fostering innovative companies, promoting sustained regional development, international expansion of domestic firms, creating more high-quality jobs and achieving convergence with the EU average per capita income. Currently the RDS encompasses 185 legal, investment or organizational initiatives, and some of them were already implemented, like the Business Constitution (a set of 100 pro-business legal rationalization initiatives aimed at improving business climate) or creation of the Polish Development Fund, that is intended to coordinate and to finance key development initiatives.

One of top priorities of the RDS is to promote innovation. The PFR and other institutions offer a range of investment initiatives addressed to startups and innovative companies. Increase in the R&D spending and support for innovative companies at different stages of maturity is perceived by the authorities, as a way to achieve more technologically advanced economy.