Policy Dilemma Shaping Up for Poland

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Poland’s central bank meets tomorrow, and is expected to keep rates steady at 1.5%.  Price pressures are rising sharply even as the economy remains sluggish, which could lead to a policy dilemma later this year.  Meanwhile, ratings agencies and the EU have warned about threats to the nation’s institutional framework.


The ruling Law and Justice party won an outright majority in the 2015 general elections.  The next general election does not have to be held until 2019.  President Duda was also elected in 2015 but his five-year term runs until 2020.

Given its strong mandate, the ruling Law and Justice party continues its controversial efforts to shape and influence the nation’s judiciary.  The cabinet just approved draft plans for an overhaul of the National Council of the Judiciary.  This council makes judicial appointments, and would be appointed by parliament (rather than judges) under the draft plan.

Another flare-up is the growing feud between the government and Supreme Court First President Malgorzata Gersdorf.  Lawmakers have asked the Constitutional Tribunal to determine whether her 2014 appointment was constitutional.  This followed recent comments from Gersdorf in which she criticized the party for naming judges that are not independent from the Justice Minister.

Poland has already run into criticism from the EU with its efforts to reshape the judiciary.  The European Commission in December made a series of recommendations to maintain an independent judiciary in Poland.  If the EC deems Poland’s responses as unsatisfactory, it has the right to use Article 7 of the EU treaty to seek sanctions that could include the suspension of Poland’s voting rights.

The government has softened its stance on converting FX loans.  While forced conversion was originally planned, criticism led the government to embrace a voluntary, negotiated conversion process.  Government officials hope to have some sort of scheme in place by August, but no further details have been made available.



The economy is still sluggish.  Poland’s 2.8% growth in 2016 was slower than the 3.9% posted in 2015.  Domestic demand (both private and government) posted strong gains last year, but this was offset by sharply lower investment.  Growth is expected to rebound to 3.2% in both 2017 and 2018.

Price pressures are picking up, with CPI accelerating to 1.8% y/y in January.  While this is the highest rate since December 2012, it remains below the target of 2.5% and within the 1.5-3.5% target range.  February CPI will be reported next Tuesday, which is expected to accelerate further to 2.1% y/y.

The central bank is expected to keep rates steady tomorrow.  It has been on hold since the last 50 bp cut back in March 2015, but rising price pressures will have to be acknowledged.  While this month may be too soon for a shift, we think that the bank’s forward guidance for tightening to begin in 2018 will have to be brought forward to mid-2017.  For now, central bank officials retain a dovish stance but we do not think this can be sustained.

Fiscal policy will likely worsen.  The ruling Law and Justice party was elected on a platform that promised greater government spending.  Sure enough, expenditure growth picked up over the course of 2016 even as revenue collection has lagged.  The budget deficit came in at an estimated -2.5% of GDP in 2016, little changed from 2015.  It is expected to widen to -3% in both 2017 and 2018.

The external accounts are in good shape.  At the end of 2016 the current account deficit was around -0.2% of GDP, down from -0.6% in 2015.  With energy prices rising, the deficit is seen widening to -1% of GDP in 2017 and nearly -1.5% in 2018.  Foreign reserves have risen steadily and at $110.9 bln in February, they cover nearly 5.5 months of import and are just about equal to its stock short-term external debt.



The zloty has done better after a poor 2016.  In 2016, PLN fell -3.3% vs. EUR and was barely ahead of the worst ARS (-18% vs. USD), TRY (-17%), MXN (-16%), and CNY (-6.5%).  So far in 2017, PLN is up 2% YTD and is one of the better EM performers.  Our EM FX model shows the zloty to have WEAK fundamentals, so this year’s outperformance is likely to ebb.

EUR/PLN has fully retraced the post-election rise and made new cycle lows before stalling out.  Using the December-February drop, the major retracement objectives come in near 4.3625 (38%), 4.3900 (50%), and 4.4175 (62%).  The 200-day MA comes in near 4.3565.

Polish equities have also done better after a weak 2016.  In 2016, MSCI Poland was up 1% vs. 7% for MSCI EM.  So far this year, MSCI Poland is up 14% YTD and compares to 9% YTD for MSCI EM.  This outperformance should continue, as our EM Equity model has Poland at a VERY OVERWEIGHT position.

Polish bonds have underperformed recently.  The yield on 10-year local currency government bonds is +8 bp YTD, which is one of the weaker performances in EM.  With inflation likely to continue rising and the central bank likely to tilt more hawkish, we think Polish bonds will continue underperforming.

Our own sovereign ratings model shows Poland’s implied rating at BBB/Baa2/BBB.  As such, our model still suggests downgrade risks to actual ratings of BBB+/A2/A-.  We believe S&P’s initial cut to BBB+ last year was just the first of several to come.  Indeed, Moody’s moved the outlook on its A2 rating last year from stable to negative.

*additional research provided by Rafal Korporowicz (BBH Krakow)*