Macroeconomic overview End-July 2019

The big picture for UK companies and foreign investors interested in the Polish market; key macroeconomic indicators updated at the end of each month.

Commentary

Since 1992, Poland’s growth rate has averaged 4.2% a year, the economy continued to grow throughout the global economic crisis. This year each successive month sees GDP forecasts being notched upward; whereas in January the consensus growth forecast for 2019 was around 3.2%-3.5%, it is now a whole percentage point higher. Having said that, June data disappointed, in particular the fall in industrial and construction output. There are seasonal explanations (heatwave, public holidays), but there is concern that weakening demand in key export markets in particular Germany and the UK will further hit Polish manufacturers.

Poland’s growth passed the peak of its current economic cycle, with year-on-year GDP growth slowing from a high-point of 5.3% in Q2 2018 to 4.5% in Q2 2019.

Driving the economy is consumer consumption, with social transfers ahead of autumn’s parliamentary elections playing a prominent role. Under 26s no longer have to pay personal income tax; pensioners will receive a one-off bonus payment of 1,500zł – this will help the government win the election but will have a knock-on effect in coming years.

Consumer price inflation (flash estimates for July at 2.9%) is worrying. A sharp rise in inflation began earlier this year and shows no sign of abating – the central bank (though nominally independent) is unlikely to raise interest rates ahead of the elections.

Poland’s economy has three stout legs; when one weakens the other two – infrastructure investment (largely EU-funded) and consumer spending – will keep the motors running. The third leg – export-led manufacturing – is doing less well given the sluggish performance of Poland’s largest export market, Germany, and continued Brexit uncertainty in the UK, Poland’s third-largest export market.

Registered unemployment has fallen to another record low of 5.3% in June 2019. Yet the Eurostat measure, looking at economic activity rather than the claimant rate, was 3.8% for June 2019, suggesting that well over a third of those registered as unemployed are working in the cash-in-hand sector.

Concerted efforts by the Ministry of Finance to close down VAT loopholes (which resulted in 53.4 billion zlotys of foregone revenue in 2015) are proving effective. Deputy premier (now premier) Mateusz Morawiecki claimed to have clawed back some 15-17 billion złotys in 2016. Further tightening of measures against the grey economy have since been introduced; micro-businesses are now obliged to file their VAT returns online in the Single Audit File for Tax (SAF-T) format. Voluntary split-payment of VAT was introduced on 1 July 2018 (for B2B transactions only), causing concern about the liquidity of small businesses whose cash-flow will be affected.

Concerns about the effects of political interference in the markets remain present among foreign investors. The law restricting Sunday trading, has come in force in steps. At first two Sundays a month in March 2018, now three Sundays a month (from January 2019), with the last Sunday being open for business. From next year, seven Sundays a month will remain – one Sunday a quarter, one before Easter and two before Christmas.

The construction sector still has issues with ease of obtaining planning permissions and poor public procurement procedures. The latter is a problem across most firms that do business with the public sector.

An increasing worry among foreign investors regarding the independence of the Polish judiciary concerns the legal fair play in cases where they may be facing the Polish state or state-owned enterprise in court. This is not a major worry for foreign investors who have come to Poland to make car parts or process food, where the client/customer is in the private sector. But foreign-owned construction firms engaged in major infrastructure projects for the Polish state are concerned that court cases between them and the public-sector contractor might not be fairly adjudicated. There is a feeling that courts where the judges take instruction from politicians will be biased against foreign capital; this will dissuade foreign-owned companies from taking on public tenders and leaving them to Polish firms. With less competition on the market, the Polish taxpayer may end up paying more for infrastructure projects of lower quality, delivered late. A casual observer will be able to see just how much faster and cost-effective are construction projects run by the private sector compared to the public sector. The former can replace a derelict city-centre block of flats with a hotel in the space of 11 months, while the latter is unable to put a viaduct across a railway line in three years.

Remaining sectors of the economy, however, feel generally untroubled by political risk, and inward investment from the UK looks likely to rise as investors seek a high-skilled but lower-cost labour force within the EU. BPCC members in sectors such as HR and real estate report rising interest among UK-based businesses with US, Japanese, South Korean or Indian capital looking for a secure base within the EU. Brexit-related worries are also prompting British businesses to consider Poland as a location for continental EU markets.

Questions that investors will be looking at closely: will Poland’s 2020 budget be able to withstand the higher social costs of the 500+ child-benefits programme, a lower retirement age and new pre-election social giveaways? Will the prime minister’s plans to simplify bureaucratic procedures for small business boost growth and counterbalance the additional social costs? Will the impending departure from the single European market of Poland’s third-largest export destination hit its industrial production and GDP? Will the Ministry of Digital Affairs be able to deliver an ambitious e-administration project?

Looking ahead for the next 15-20 years, Poland will only continue to grow at a faster pace than Western Europe if it innovates; to do so effectively, Poland needs to reform its entire education system (from primary to tertiary) and build an eco-system that encourages entrepreneurship, investment in home-grown innovation that can be commercialised and strong links between academia and business.

Poland will be receiving over €83 billion from Brussels in the form of structural and cohesion funds for the 2014-2020 EU budget perspective, of which some €28 billion has been earmarked for transport infrastructure (with a marked focus on rail). This – like money from the 2007-2013 budget – will have a significant positive impact on the Polish economy, and will greatly improve transport around the country, to the benefit of business. Complicated and less-than-transparent public procurement procedures – in particular the appeals process – means that foreign construction companies are less attracted to public infrastructure projects.

Manufacturing output bounced back from a low in the autumn of 2016; mainly driven by exports. But being Germany’s manufacturing outsourcing backyard, Poland’s industrial production is heavily dependent on Germany's export-led economy. Germany now accounts for 27.9% of all Polish exports; there are concerns that protectionist tendencies in the US and around the world will slow down the growth of German exports – and the Polish components that feed into it. At the same time, eurozone growth is slowing noticeably.

Trade figures for the first five months of 2019 showed that Poland's wafer-thin trade deficit has turned to a €1.9 billion trade surplus.

Although Poland’s two-and-half-year deflationary run ended in December 2016, inflation had held remarkably steady with consumer prices rising between 1% and 2%, but accelerating ominously this year hitting 2.9% in July 2019). Wages, however, had been rising faster, with 7.7% growth in the private sector pay in the year to May 2019. The statutory minimum wage increased by 7.1% on 1 January 2019 (from 2,100 zł to 2,250 zł). Persistent and high wage increases are just beginning to work their way into the consumer price index.

[Note: The way Poland’s statistical office counts pay rises, industrial production and other indicators means that data is not collected from micro-businesses employing nine or fewer employees. This means that a true picture of average wages, productivity etc, cannot be gained as over 90% of businesses by number are not included.]

The Monetary Policy Council cycle of loosening money supply by lowering base rates from a high of 4.75% (May 2012), with ten further cuts between November 2012 and March 2015, since when base rates have stayed at 1.5% since. Analysts are not expecting an upward move before autumn’s parliamentary elections (said to be slated for 13 October), but if inflation (in particular base inflation) continues to push upwards, a base-rate rise is looking inevitable before the year’s end.

Demographics

Poland’s largest age cohort, born in 1983, will reach the age of 36 this year (all 690,000 of them); this is Poland's demographic high-water mark. By contrast, the number of 16-year-olds, born in 2003, is a mere 350,000, the low-water mark. Over the next several years, the number of young people entering the labour market will continue to fall by an average of 17,000 a year, as it has done for the past decade or so. The turnaround will happen when the 2004 cohort starts joining the labour market between 2023-27.

However, the high quality of secondary education in Poland continues to encourage the BPO sector to invest in service centres in Poland, as does the high level of foreign language proficiency among younger Poles (Poland was ranked 13th out of 88 countries around the world in the 2018 English Proficiency Index by language training company EF, with ‘high’ proficiency – a level above that found in Switzerland or Czechia).

The shock to national accounts of large numbers of post-war baby-boomers hitting pensionable age in the early part of the next decade (65-year-olds born after 1953) will be made worse by the low number of Poles of pre-pension age in the labour market. Only 46% of Poland’s 55-64s are economically active (compared to 63% in the UK). The Tusk government raised the retirement age to 67 for men and women, though the current government has pledged to return it to the previous 65 for men and 60 for women.

Unemployment

During the four and half years from February 2004 to October 2008, registered unemployment in Poland fell faster than in any major economy ever in peacetime, from 20.4% to 8.8%. This level was unsurpassed until June 2016. The global financial crisis might not have pushed Poland into recession, but the economy certainly felt the strain. By March 2013, unemployment had reached 14.3%, a new high-water mark, before starting to fall, down to 5.4% in May 2019. A year earlier we witnessed the historic moment when, on a like-for-like measure, unemployment in Poland actually fell below that in the UK.

However, Eurostat says that Poland's unemployment, measured by economic activity rather than registered joblessness, stands at 3.8% (Jun 2019), suggesting that a over third of those signed on are actually economically active working cash-in-hand within the grey sector. By signing on as unemployed, and therefore being without income, they are eligible for free healthcare and social housing. The difference between measures in Poland is 1.6 percentage points; in the UK it is 0.1 percentage point! The difference is falling, however; in March 2019 it had been as high as 2.4 percentage points.

Compared to the situation in the UK, western Europe and the USA, Poland's unemployment is lowest in the cities and highest in rural areas, with more than half of the long-term unemployed living in villages. There remain massive regional disparities between cities where unemployment is very low (Poznań 1.2%, Warsaw amd Katowice 1.4%, Wrocław 1.7%, Kraków 2.3%, Gdansk 2.5% in June 2019) while in many small provincial towns it remains stubbornly in double digits. Szydłowiec, some 120km south of Warsaw, also in the Mazowsze province, holds the record at 22.4.%. Nearby Radom, a city of 200,000 people, also has high unemployment at 11.4%. Fruit-growing Grójec poviat south of Warsaw has just 1.9% unemployment, reflecting the difficulties that employers have in finding fruit pickers.

Regional differences in unemployment will play in important role in the government's new industrial strategy, in which investment will be directed by subsidies and tax incentives towards areas of higher unemployment. Investors might wish to consider university cities such as Kielce and Rzeszów (4.9%), or Lublin or Łódź, where unemployment stands at 5.1% (data from June 2019).

The zloty

Although Poland had notionally signed up to joining the eurozone as part of its EU Accession Treaty, there was no mention of when, nor at what rate. To do so, Poland must first alter its constitution accordingly, which needs a two-thirds parliamentary majority. The current government is even more reticent than its predecessor to enter the eurozone; there is no pressure from the European Commission for Poland to do so.

The aftertaste of the euro crisis has put any discussion of Poland abandoning the zloty on hold for the foreseeable future. Poland, therefore, lingers on the fringes of the EU’s central core – and – importantly for its manufactured exports – it can control the competitiveness of its currency.

The zloty, which had been rising rapidly in value against the pound, the euro and dollar in the four years after EU Accession, suffered a major depreciation in the aftermath of the October 2008 financial crisis. Between August '08 and February '09, the zloty depreciated by nearly 40% against the euro. This made Poland far more competitive for inward investment and for export, and was one of the key factors that kept Poland out of recession.

Since February 2009, the zloty climbed back, though not to the unsustainable level of 3.20 zł = € experienced in August 2008. Throughout 2010 and into 2011 the zloty held steady at around the 4.00=€ and 4.50=£ marks. The euro crisis, however, have knocked the steam out of the zloty's stability. The wobbles on the markets caused by the threat of sovereign defaults in the eurozone and Hungary hit the zloty, knocking it back to 4.50=€ and 5.45=£. For much of 2012, however, the zloty has rebounded somewhat, stabilising at around 4.20=€ and 5.00=£ throughout 2013 and much of 2014. The Ukraine crisis barely affected the zloty's stability vis-a-vis the euro. However, uncertainty as to the economic decisions being made by the new PiS government weakened market sentiment towards the zloty, which reached a low point of 6.09 against sterling in early November 2015.

But then the Brexit referendum resulted in a dramatic fall in value of the pound. From June to October 2016 5.60 zł, to pound fell to 4.80zł, a 14% drop. This badly hit the margins of Polish exporters.  The euro has held stable around 4.25-4.30 złotys, while the pound, subject to stronger fluctuations for political reasons, has fallen below the 4.75zł mark. A no-deal Brexit may result in the pound trading at 3.90-4.10zł, while the revocation of Article 50 would see it returning to pre-referendum levels, according to specialists in foreign exchange.

UK-Polish trade

Trade between the two countries has been grown consistently since the end of communism, accelerating significantly since Poland joined the EU. However, the prospect of a hard Brexit slowed down the growth of trade in 2018 from the usual robust tempo. In any case turned out to be a record year for British-Polish bilateral trade, although growth compared to 2017 was minimal.

The value of trade in goods was £15.8 billion, over five times as much as before Poland’s EU accession. Last year, UK exports to Poland were worth a record £5.1 billion (up from £5.0 billion in 2017) while Polish exports were up to a record £10.7 billion (up from £10.5 billion in 2017). However, this is UK data in sterling.

Stockpiling in the run-up to the original date of the UK’s departure from the EU resulted in record months of sales for Polish exporters, though this effect went into reverse in April 2019.

Poland has a large overall trade surplus with the UK (in 2018 it was €8.2 billion – only with Germany does it have a larger one, at €11.6 billion). The value of Polish exports to Czechia exceeded that of those with the UK in 2018, pushing the UK down to third place from second. Positions were reversed in in the first quarter of 2019. Meanwhile the UK has slipped from eighth to 11th place in the ranking of Poland’s import sources; it remains Poland’s seventh-largest bilateral trading partner (after Germany, China, Czechia, France, Italy and Russia).

Author: Michael Dembinski

Links:
GUS, the government's central statistical office, has a small section in English that offers some indicators.
Central Bank of Poland
Eurostat

Keywords Macroeconomic, july