Portugal on track but at risk under rescue targets: EU

(LISBON) - Portugal is sticking broadly to its bailout reform programme but could be badly knocked off course for next year if the constitutional court strikes down new measures, the EU said on Thursday.

Portugal is still "broadly on track", but faces big risks in meeting the target of returning to borrow normally on the sovereign debt market next year, it warned.

The European Union made the comments in a report on the eighth and ninth audits carried out in September.

It noted that an unexpected spurt by the economy in the second quarter meant that it was set for contraction of 1.8 percent this year and then a switch into growth of 0.8 percent in 2014.

But the Portuguese Constitutional Court, which already triggered a political crisis by rejecting some tax measures to meet bailout conditions, could do so again.

If it did, the target for a full return to borrowing on the sovereign debt market could be sharply complicated, the EU said.

"This would imply increasing risks to growth and employment and reduce the prospects for a sustained return to financial markets."

The government has put forward new measures to meet the rescue targets. These include cuts in the pay and pensions of civil servants.

The EU said: "The government's financing conditions have deteriorated since the summer, after the political crisis in July has raised market concerns about the government's commitment to the reform programme while its capacity to continue the economic adjustment has been put into question by a series of Constitutional Court rulings against key policy measures."

However, the target of a public deficit equivalent to 5.5 percent of output this year "is within reach".

The EU, one of the organisations behind the bailout together with the International Monetary Fund and European Central Bank, said that strict application of the programme was a necessary condition for a return by the country to the markets, it said.

Portugal has enacted, and continues to ramp up, radical measures to reduce its public deficit and increase the efficiency of its economy to receive rescue loans of 78 billion euros.

The bailout programme lasts for three years with the intention that next year Portugal will have re-built sufficient credibility to be able to finance its deficit and debt on the sovereign bond market in the normal way.

The rescue became necessary when investors took fright at the state of public finances in Portugal, at the same time as crises in Greece and Ireland, and became reluctant to lend to the government, with the consequence that market borrowing rates for the country rose to unsustainable levels.

The EU said that if the court blocked new measures, the centre-right coalition government would have to re-work its budget in order to reduce the public deficit to the target of 4.0 percent of output in 2014.

Any changes to the budget would have to be judged during the next audit, the EU said. The EU, IMF and ECB experts are due in Lisbon on December 4 for the 10th progress report on the rescue programme.

Parliament is due to vote on a final reading of the budget on November 26.

The EU said that successful completion of the combined eight and ninth reviews would release 3.7 billion euros ($5.0 billion) from the EU and 1.9 billion euros from the IMF "bringing overall financing to around 72 billion euros, more than 90 percent of the total envelope."