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Poland sacrifices fiscal sacred cow to tackle economic slump

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(Globalpost/GlobalPost)

By Pawel Sobczak and Marcin Goettig

WARSAW (Reuters) - Poland will suspend a cherished budget rule to allow a bigger deficit this year, loosening the fiscal discipline for which it has been a standard-bearer as its economy slows after two decades of uninterrupted expansion.

The European Union's sixth-largest economy has been praised for keeping a tight lid on spending and debt, but that has become hard to sustain after the economy almost entered recession in early 2013.

Prime Minister Donald Tusk said on Tuesday the government would raise the deficit target because projections show budget revenues this year will be 24 billion zlotys ($7.30 billion) less than previously forecast.

The deficit will be widened by 16 billion zlotys, money the government will probably find by issuing treasury debt, while it will also make spending cuts worth about 8.5 billion zlotys.

"We have to decide how to cover this shortfall," Tusk, whose lead in the opinion polls has been swallowed up by the economic slowdown, told a news conference.

The zloty currency gained 0.3 percent to the euro to hit a four-week high after the announcement. Bond yields rose slightly.

The central budget deficit, planned at 35.6 billion zlotys for this year, had already reached 87 percent of the full-year target in May. In the same month, the European Commission gave Warsaw an extra two years to meet deficit-reduction targets to bring it into line with EU fiscal rules.

Several other European countries have already loosened their fiscal targets in response to economic slumps, but for Poland - the only EU economy not to have contracted since the global financial crisis - it represents a difficult balancing act.

Its fiscal policy, among the most prudent in Europe, has earned investment-grade ratings for its sovereign debt. But at the same time, markets are worried that over-tight fiscal policy will deprive the economy of the money it needs to recover.

Annual economic growth was 0.5 percent in the first quarter of this year. In the capital, Warsaw, shopping malls that had been packed with shoppers a few months ago are now struggling, with many store fronts boarded up.

GROWTH ENGINE?

A Polish recovery matters to the rest of the European Union because more mature economies look to Poland with its usually dynamic growth as an engine that can help pull the rest of the bloc out of its downturn.

Finance Minister Jacek Rostowski was for years a leading advocate of fiscal discipline. On Tuesday, he said increasing the deficit would stimulate the economy by releasing the equivalent of 1 percent of gross domestic product.

He said a debt threshold written into law that essentially prevents a widening of the budget deficit if public debt exceeds 50 percent of GDP would be suspended this year and next.

This move is essential because debt is already above the threshold, making it impossible at the moment to increase the budget deficit. Two other debt thresholds, which are activated when borrowing reaches 55 percent and 60 percent of GDP, will remain in force.

The extra deficit amounts to about 5 percent of total budget revenue. Analysts said that was not a huge stimulus and did not, in itself, raise particular concerns about fiscal stimulus swinging to the opposite extreme and becoming too loose.

But Piotr Bielski, senior economist at BZ WBK, a Polish bank, said that by suspending the lowest of the debt ceilings, the government risked undermining the credibility of the other thresholds.

"It seems that if we are nearing a threshold then we suspend it," he said. "The rules make sense if you observe them."

Polish debt is now not far off the second threshold. It stands at 52.7 percent of GDP, according to domestic accounting standards, and economists predict it will rise.

(Additional reporting by Chris Borowski; Writing by Christian Lowe; Editing by Catherine Evans)

http://www.globalpost.com/dispatch/news/thomson-reuters/130716/poland-sacrifices-fiscal-sacred-cow-tackle-economic-slump