Malta’s economic growth prospects in 2012 have deteriorated as the eurozone slows, because of the constraints this will impose on financial services, exports and tourism, according to Ernst and Young’s latest Eurozone Forecast for Malta.
Weaker economic activity, combined with fiscal tightening, has exacerbated political tensions. This may make it more difficult to implement austerity in the coming quarters
“We now forecast GDP growth of 0.9 per cent in 2012, with a slight pick-up to 1.5 per cent in 2013 as exports start to recover, but a broader-based recovery will be delayed until 2014 - 15, when growth is expected to rise toward three pre cent,” the report says. Malta witnessed 2.1 per cent economic growth in 2011, far higher than the eurozone average of 1.4 per cent.
The forecast says service exports have shown greater resilience than manufacturing but are still at risk from a renewed slowdown of activity in the eurozone financial sector, and recent growth rates are well below their pre-crisis average.
On a positive note, Ernst and Young says the fiscal deficit narrowed to an estimated 2.9 per cent of GDP in 2011, following spending cuts and modest revenue pick-up. But the government, it points out, will remain under pressure to narrow it further in 2012 which, given the weak outlook, will require further cost control measures.
In particular, it says, the International Monetary Fund has repeated its warning that pensions represent a serious additional public liability and has called for the implementation of the recommendations of an official report – a rise in retirement ages and automatic enrolment in new private pension schemes.
It adds: “The government has promised to meet EU demands for faster deficit reduction by further tightening the 2012 Budget. Additional savings of up to €40m will be sought, with the aim of restricting the deficit to 2.8 per cent of GDP.”
However, the report says that given the difficult external circumstances, the EU is unlikely to implement ‘excessive deficit’ action if these savings are not attained, or if the three per cent ceiling is exceeded.
“But credit rating agencies may not be so tolerant given the government’s diminishing ability in implementing public sector budget cuts,” it added.
The forecast expects continued growth to allow the budget deficit to remain at 2.9 per cent of GDP in 2012, before beginning to improve in 2013. It predicts the deficit will fall below two per cent of GDP in 2015.
“Weaker economic activity, combined with fiscal tightening, has exacerbated political tensions. This may make it more difficult to implement austerity in the coming quarters, heightening downside risks to the budget situation. Budget tightening is also made harder in 2012–13 by ongoing financial strains at state-owned companies.
“In particular, Enemalta is currently vulnerable to international fossil fuel price movements and in need of heavy investment to diversify supply.
“The company has continued to move toward self-financing future investment by raising consumer and producer fuel prices. The company would pose a serious risk to the government budget if its financial condition were to worsen,” Ernst and Young says.
The reports says that while Fitch Ratings exempted Malta from its round of eurozone credit rating downgrades in January, Standard and Poor’s lowered it one notch to A- (with a negative outlook) and Moody’s followed suit in February.
The rating agencies cited weaker eurozone demand and monetary disturbances as the main source of risk to Malta’s economy.
“They regard it as essential that fiscal policy be tightened – speeding up the return to budget balance – to retain investor confidence.”
The reports says further falls in sovereign credit ratings, while not endangering investment grade status, would risk raising public and private funding costs and make fiscal tightening more difficult in 2012–13, further exacerbating the existing problems.
“Although yields on Malta’s government bonds remained stable during the worsening of the debt crisis in eurozone in 2011, the recession expected in southern Europe in 2012 raises the risk of such a scenario as the effects of faltering external demand and contagion in the bond markets could prove stronger than expected. This risk is increased by the large size of Malta’s public debt, at 70 per cent of GDP.”
It says the subdued domestic property market remains a source of credit risk and funding could also be hit by concerns about European banks. As a result, banks and insurers, although well capitalised , could be forced to raise more capital if their assets deteriorate, it warns.
The report highlights that its growth and budget forecasts are conditional on an orderly Greek default “and there are strong downside risks if Greece suffers a disorderly default.
“The IMF estimates Malta’s bank assets at over 800 per cent of GDP and has called for increased provisioning against bad debt and a larger deposit insurance fund to ensure that confidence is maintained.”
The report says credit tightening is expected to weigh on domestic demand growth, together with the ongoing fiscal consolidation. It says the Maltese economy’s openness and reliance on imported energy and raw materials will make it difficult to sustain an inflation rate below that of the eurozone. It forecasts inflation will average 1.6 per cent in 2012 and 2.3 per cent per annum in 2013 - 15.