European Commission’s deficit forecast for 2013 at 3.4% of GDP

The European Commission's autumn forecast, carried out before the presentation of Budget 2014, is predicting a deficit in 2013 that will increase to 3.4% of GDP - well over the 3% Maastricht threshold.

The projections contrast with those being put forward by Malta, which is projecting a deficit reduction to 2.7% by the end of the year, down to 2.1% during 2014.

Although the European Commission has yet to issue a formal conclusion on the budget presented last night, Prime Minister Joseph Muscat yesterday said he was confident that Brussels's reaction would be "positive".

In its forecast, the Commission said job creation "surprised positively" in the first half of the year thanks to the performance in the tourism sector and the newly-emerging, labour-intensive activities in the services sector. The figures were also supported by ongoing government measures to increase labour market participation of women.

"Employment growth is projected to moderate slightly over the forecast horizon, but to remain relatively strong at 1.8% per annum, well above the euro-area average. At the same time, the unemployment rate is projected to remain low and to average 6.3%, slightly lower than in 2012," the European Commission said.

After having widened to 3.3% of GDP in 2012, on account of slippages in current expenditure, the deficit in 2013 is expected to increase slightly to 3.4% of GDP, the Commission projects.

Current primary expenditure is forecast to increase by 0.3 pp. of GDP, due to higher subsidies and other current expenditure, while intermediate consumption is projected to decrease by 0.1 pp. of GDP thanks to the spending review at ministry level started in July 2013.

On the capital side, net expenditure, including the planned additional equity injection into Air Malta (0.6% of GDP), is expected to stabilise. Despite the pick-up in economic activity, indirect taxes are projected to decrease by 0.1 pp. of GDP as the 2012 outcome benefitted from one-off revenues.

Economic growth 'speeds up' in 2013

"Despite weaker-than-expected domestic demand, real GDP surprised positively and grew by 2.8% in the first half of 2013, driven by higher net exports as imports contracted more than exports," the Commission noted.

A significant contribution came also from the change in inventories.

As overall economic sentiment dipped in the third quarter, economic growth is projected to slow down in the second half of the year. Still, real GDP is forecast to grow by 1.8% in 2013 as a whole, up from 0.8% in 2012.

Household consumption 'main driver of growth'

The Autumn Forecast projects real GDP growth to accelerate marginally and to average 2% in 2014-15.

The delayed recovery in domestic demand registered in 2013 is forecast to gain pace over the forecast horizon. "Rising disposable income, also thanks to tax incentives, is projected to support private consumption, which is forecast to become the main driver of economic growth, adding on average 1.2 percentage points in 2014-15".

The Commission however expects investment to remain subdued and to increase only slightly from its currently low level.

"Difficult access to finance, due to a combination of high cost and tight lending standards, and restructuring of the economy towards less capital-intensive activities are seen to be the main factors behind the weak investment outlook."

The Commission forecasts export growth to pick up in line with the gradually recovering economic outlook in the euro area and the further expansion of the economy into export-oriented service activities.

At the same time, recovery in the very import-intensive domestic demand will stimulate import growth.

Macroeconomic forecast

The risks to this macroeconomic forecast are on the upside in 2013, if the positive momentum from the first two quarters is carried over, and broadly balanced thereafter.

"Given the very high trade openness of the Maltese economy, slower recovery in the main trading partners could further delay the fragile recovery in domestic demand," the Commission said.

"At the same time, a number of structural reforms, most notably in the energy sector, are likely to drive down industry costs if properly and timely implemented, and strengthen the medium-term growth outlook."

Income taxes

According to the Autumn Forecast, incomes taxes were projected to continue growing, despite measures to gradually reduce the overall income tax levels. As a result, current revenues are projected to rise by 0.3 percentage points of GDP.

The Commission forecasts a deficit ratio in 2014 to remain unchanged, basing its forecasts pre-budget presentation: "In the absence of consolidation measures, as the 2014 budget was not adopted by the government before the cut-off date of this forecast, the deficit ratio in 2014 is expected to stay unchanged."

After having worsened by 0.5 points of GDP in 2012, the structural deficit is expected to improve by 0.5 points of GDP in 2013, and to deteriorate slightly in 2014.

"On a no-policy-change assumption, the structural deficit is expected to deteriorate by 0.5 pp. of GDP in 2015, as the headline deficit does not improve in a context of actual GDP growth exceeding its potential," the Commission reported.

The debt-to-GDP ratio is projected to continue increasing over the forecast horizon, as the primary balance remains insufficient to allow a reduction in the debt ratio.

"The main risk is related to the financial situation of Enemalta, which could entail additional subsidies."