Fiscal and monetary stimulus will bring some relief
Fiscal consolidation has to take a break
Poland has a rules-based fiscal policy framework, which is a positive in theory. However, the PiS government that came into office in late 2015 has embarked on a controversial economic policy course. It took a number of measures that have fundamen¬tally weakened the independence and effectiveness of key state institutions, such as the constitutional court, public broadcasting, the civil service and the central bank. Moreover, the PiS softened some of the fiscal rules and introduced several fiscal stimulus measures, most of them boosting consumption via increased social benefits. This fiscal loosening indeed supported growth in 2017-2018 though surging capital spending, thanks to increased utilization of EU funding and stronger external demand, played a bigger role. And owing to the strong GDP growth in 2017-2019, both the fiscal deficit and total public debt declined in relation to GDP despite the lax fiscal policy stance.
Against the backdrop of the Covid-19-induced recession, this positive trend will certainly reverse in the next few years. The Polish government has announced a large fiscal stimulus program worth more than 12% of 2019 GDP. This is the second largest program in CEE after Czechia (18%). Importantly, around 4.6% of GDP is direct stimulus measures, which will help ease the immediate pressures of the crisis. The remainder of the stimulus is mainly loans and loan guarantees over the next two years or so. As a result, we expect the government to post fiscal deficits of around -7% of GDP in 2020 and -3.7% in 2021. This should raise public debt from 46% of GDP in 2019 to more than 54% in 2021.
Monetary easing includes QE-style measures
The monetary policy framework is based on inflation targeting. Since the beginning of 2004, the Monetary Policy Council (MPC) of Poland has pursued a continu¬ous inflation target of 2.5%±1pp. As consumer price inflation was below or within the target range from February 2013 to end-2019, the MPC lowered its key policy interest rate to 1.5% by March 2015 and maintained that rate until February 2020 (even though inflation rose temporarily to an average 4.5% y/y in Q1 2020).
From March to May 2020, the MPC lowered the policy rate in three moves to just 0.1% in order to ease the impact of the Covid-19 crisis on the economy. This was justified as headline inflation fell back to 2.9% y/y in May. The Polish central bank has also began to purchase government bonds to ensure the smooth functioning of bond markets as well as sufficient liquidity for banks to support private sector credit. As of mid-2020, such quantitative easing (QE-)like monetary easing amounted to nearly 4% of GDP but we expect it to be increased further as the key policy interest rate is now near zero. Yet, this measure is different from QE in advanced economies and should remain much smaller in scale.
Moderate downward pressures on the currency
The Polish zloty (PLN) has been relatively stable overall over the past years, separate from some volatility in 2016 in the wake of political events such as the start of the PiS government’s implemen¬ta¬tion of its controversial policy measures in early 2016, Brexit in June and the election of Donald Trump as U.S. President in November.
In March 2020, the PLN lost around -6% in value against the EUR as international investors withdrew capital from all Emerging Markets as the coronavirus was spreading rapidly, causing widespread uncertainty. As the scale of the economic impact of the disease and the fact that Poland would not be among the worst hit economies became clearer by mid-2020,, the PLN regained one third of the initial losses. Going forward, we expect some volatility to flare up every now and then, along the lines of sanitary and economic news flows. On average, we expect the PLN to depreciate by around -5% against the EUR in 2020. The pass-through to consumer price inflation should be limited.