Rating action

Scope Ratings GmbH (Scope) has today upgraded the Portuguese Republic’s long-term issuer and senior unsecured debt ratings in local- and in foreign-currency to A from A-, and revised the Outlooks to Stable, from Positive. Scope has furthermore affirmed the short-term issuer ratings at S-1 in local- and in foreign-currency, with Stable Outlooks.

The upgrade reflects Portugal’s significant progress in reducing public debt, underpinned by a strong track record of prudent fiscal policy, a favourable debt profile marked by prudent debt management, and improved resilience of economic growth.

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Key rating drivers

Portugal has demonstrated substantial progress in reducing public debt, underpinned by a strong track record of prudent fiscal policy. Between 2016 and 2019, Portugal maintained primary surpluses averaging 2.2% of GDP, and relatively moderate budget deficits during the pandemic, with a marked recovery from -5.8% in 2020 to -0.3% by 2022. By 2023, a budget surplus of 1.2% was achieved, supported by strong post-pandemic growth, with GDP rising 7.0% in 2022 and 2.5% in 2023, reducing the debt-to-GDP ratio from 123.9% in 2021 to 97.9% in 2023.

Scope expects Portugal’s debt reduction to be sustained through favourable growth-interest rate dynamics and high, albeit moderating, primary surpluses. Scope projects a primary surplus of 2.5% of GDP and a budget surplus of 0.3% in 2024, supported by continued fiscal discipline. Budgetary flexibility is likely to narrow over the long term due to increasing social benefit costs driven by an aging population and measures to address housing affordability. However, interest payments, currently at 2.1% of GDP in 2023 and projected to reach 2.3% by 2025, are expected to be covered by high primary surpluses.

Scope forecasts continued budget surpluses, supported by declining financing costs, a reduction in debt levels, robust tax revenue growth, and sustained fiscal discipline. Scope expects these factors to support a continued reduction in Portugal's debt, with the debt-to-GDP ratio projected to decline to 85% by 2026, reflecting a stronger debt reduction than outlined in Portugal's Medium-Term Fiscal Structural Plan, which targets 90.4%.

Policy continuity in Portugal is expected to remain robust, supported by a cross-party consensus on fiscal prudence. Still, the parliamentary fragmentation following the snap elections in March, may pose challenges to implementing structural reforms. However, Scope notes positively that despite the government's minority status, a cross-party commitment to fiscal prudence ensures debt reduction remains a priority. This collaborative dynamic was highlighted in October 2024 when the opposition Socialist Party (PS) abstained on the 2025 State Budget, enabling its passage on its first reading.

Portugal's debt profile is favourable, marked by prudent debt management. Portugal’s financial resilience is underpinned by a stable and diverse investor base, including the ECB and domestic retail investors. Its debt management strategy ensures a smooth redemption profile, and limited refinancing needs of around 7% of debt maturing within one year and 40% within five years, which is low compared to peers. This approach minimizes refinancing risks, avoids amortization peaks, and maintains flexibility in issuance plans to adapt to market conditions. Additionally, a cash reserve equivalent to 2.1% of GDP and a commitment to fiscal discipline further support Portugal’s robust and resilient debt structure.

Debt affordability has remained stable despite rising issuance costs, supported by a consistent weighted average maturity of 7.6 years (September 2024). The cost of debt issuance increased from 1.7% in 2022 to 3.5% in 2023, before slightly declining to 3.4% in 2024 (up to September). However, the cost of debt outstanding rose more gradually, from 1.7% in 2022 to 2.0% in 2023, with projections of 2.4% by the end of 2024, reflecting the mitigating effect of the long average maturity.

Portugal has demonstrated significant improvements in economic resilience, with strong growth momentum following the pandemic. Scope forecasts economic growth to slow from 2.5% in 2023 to 1.8% in 2024, before rebounding to 2.1% in 2025 and 2.3% in 2026, consistently outpacing the euro area average. Growth is expected to be supported by domestic demand, driven by rising real wages, increased investments from the Recovery and Resilience Plan, and moderate interest rates.

Additionally, the labour market has improved significantly, with unemployment falling to 6.1% in Q3 2024, from a peak of 18.5% in Q1 2013, driven by reforms enhancing job quality and boosting social security contributions, which have increased budgetary flexibility. Employment growth has moderated recently, reflecting tight labour markets in sectors like manufacturing and construction, which are sustaining wage pressures. Inflation dropped to 2.3% year-on-year in Q3 2024, driven by broad price deceleration. Recent policy initiatives, such as substantial tax incentives for young workers, offering up to a 100% income tax exemption in the first year, aim to mitigate emigration and fostering economic resilience.

The country’s macroeconomic stability is reinforced by an improved external position and progress in reducing external vulnerabilities, with net external debt declining to 46.1% of GDP in Q3 2024 from 56.5% in Q3 2023. This improvement reflects stronger economic fundamentals. However, external debt remains elevated, and the negative net international investment position of -65.5% of GDP in Q2 2024 underscores the country’s continued reliance on foreign capital, leaving it exposed to shifts in global financial conditions.

The current account moved from a 1.9% GDP deficit in 2022 to a 0.5% surplus in 2023, supported by strong export growth, with a modest surplus projected in 2024. The high and growing share of renewable energy in production is reducing import dependence and bolstering the energy trade balance. Structural advancements, particularly in renewable energy, are expected to sustain current account surpluses, further strengthening Portugal’s external position.

Looking ahead, medium-term projections indicate further advancements in energy efficiency, renewable energy capacity, and industrial decarbonization. These improvements are expected to be driven by substantial support from EU funding programmes, enhancing the country’s economic and environmental resilience. Portugal has made some progress in disbursing Next Generation EU (NGEU) funds, receiving 38% of its EUR 22.2bn allocation, comprising EUR 16.29bn in grants and EUR 5.9bn in loans. To date, 23% of milestones have been achieved, with EUR 5.5bn disbursed to final and direct beneficiaries, representing around 25% of the total envelope. Focused investments in energy efficiency and sustainable transport are expected to accelerate fund execution and further enhance growth prospects. These factors collectively support a resilient and sustainable economic outlook, reflecting a more sustainable growth trajectory driven by strategic sectoral investments.

Rating challenges: high public debt, limited growth potential, and external vulnerabilities.

First, Portugal's debt levels, though reduced from 123.9% of GDP in 2021 to 97.9% in 2023 due to strong fiscal discipline and primary surpluses, remain high compared to peers. A high debt burden constrains the government’s fiscal flexibility to address the consequences of any potential shock.

Second, Portugal’s growth potential is constrained by structural factors, including an aging population and low birth rates, which limit labour force expansion. Modest productivity growth, despite recent improvements, remains constrained by skill mismatches and average educational outcomes. Geographic peripherality adds logistical challenges compared to centrally located EU peers. Portugal is actively addressing these limitations through structural reforms, targeted investments, and efforts to enhance diversification.

Finally, Portugal remains vulnerable to external shocks due to its small economy and high reliance on foreign capital, despite improvements in resilience and the stability of euro area membership. High external debt and a negative net international investment position of -62.7% of GDP in Q3 2024 reflect this dependency. Focus on the euro area for exports and substantial reliance on tourism as a key growth driver increase exposure to regional slowdowns and global disruptions. These vulnerabilities highlight the importance of economic diversification, fiscal discipline, and investment in sustainable industries.

Outlook and rating sensitivities

The Stable Outlook reflects Scope’s view that risks for the ratings are balanced over the forthcoming 12 to 18 months.

Upside scenarios for the long-term ratings are if (individually or collectively):

1. Portugal achieves greater economic diversification, higher wealth levels, and sustained current account surpluses, further improving its external position and enhancing economic resilience; and/or
    
2. Significant reduction in the debt-to-GDP ratio driven by strong fiscal discipline.

Downside scenarios for the rating and/or Outlooks are if (individually or collectively):

1. Sustained fiscal weakening, reversing progress in debt reduction and undermining the fiscal outlook; and/or
    
2. Material weakening of GDP growth prospects, for example, driven by stalled structural reforms or declining reform momentum.

Sovereign Quantitative Model (SQM) and Qualitative Scorecard (QS)

Scope’s SQM, which assesses core sovereign credit fundamentals, signals a first indicative credit rating, which was approved by the rating committee, of ‘a’ for the Portuguese Republic. Under Scope’s methodology, the indicative rating receives i) a one-notch positive adjustment for the euro as reflecting a global reserve currency, and ii) no negative adjustment for political risks. On this basis, a final SQM quantitative rating of ‘a+’ is reviewed by the Qualitative Scorecard (QS) and can be changed by up to three notches depending on the size of Portugal’s qualitative credit strengths or weaknesses compared against a peer group of sovereign states.

Scope identified the following QS relative credit strength for the Portuguese sovereign: i) fiscal policy framework. Conversely, the following credit weaknesses have been identified in the QS: i) growth potential and outlook; ii) current account resilience; and iii) social factors. On aggregate, the QS generates a one-notch negative adjustment for Portugal’s credit ratings. This results in final A long-term ratings on the Portuguese Republic. A rating committee has discussed and confirmed these results.

Factoring of Environment, Social and Governance (ESG)

Scope explicitly factors in ESG issues in its ratings process vis-à-vis the sovereign-rating methodology’s stand-alone ESG sovereign-risk pillar, which holds a significant 25% weighting under the quantitative model (SQM) and 20% weight under the methodology’s qualitative overlay (QS).

Portugal demonstrates strong environmental performance, notably reducing CO2 emissions relative to GDP and advancing sustainability efforts. Renewable energy investments have significantly improved the energy mix. Backed by Recovery and Resilience Plan funding, these initiatives have also enhanced the external balance by reducing energy import dependence through decarbonization and energy efficiency measures.

Social challenges persist, with an aging population, low birth rates, and income inequality constraining growth and public finances. High old-age dependency ratios and weak, albeit improving, job contract quality weigh on social indicators. Addressing these issues will likely require sustained spending, limiting budgetary flexibility in the medium to long term, as reflected by a negative qualitative adjustment in Portugal's social factors category.

On governance, Portugal compares favourably with its rating peers, underpinning a strong record of prudent fiscal policy. However, the political landscape has become more fragmented following the 2024 elections, potentially complicating timely policy implementation over the medium term. Despite these challenges, Portugal's governance metrics continue to support its overall credit profile.

Rating committee
The main points discussed by the rating committee were: i) fiscal fundamentals and debt trajectory; ii) macroeconomic sustainability and growth performance; iii) financial stability risks; iv) external sector dynamics; v) governance factors; and vi) peer comparison.

Methodology
The methodology used for these Credit Ratings and Outlooks, (Sovereign Rating Methodology, 29 January 2024), is available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The model used for these Credit Ratings and Outlooks is (Sovereign Quantitative Model Version 4.0), available in Scope Ratings’ list of models, published under https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
With Rated Entity or Related Third Party participation   YES
With access to internal documents                                NO
With access to management                                         YES
The following substantially material sources of information were used to prepare the Credit Ratings: public domain.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting these Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and/or Outlooks and the principal grounds on which the Credit Ratings and/or Outlooks are based. Following that review, the Credit Ratings and/or Outlooks were not amended before being issued.

Regulatory disclosures
These Credit Ratings and/or Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlooks are UK-endorsed.
Lead analyst: Jakob Suwalski, Senior Director
Person responsible for approval of the Credit Ratings: Alvise Lennkh-Yunus, Managing Director
The Credit Ratings/Outlooks were first released by Scope Ratings in January 2003. The Credit Ratings/Outlooks were last updated on 26 July 2024.

Potential conflicts
See www.scoperatings.com under Governance & Policies/Regulatory for a list of potential conflicts of interest disclosures related to the issuance of Credit Ratings, as well as a list of Ancillary Services and certain non-Credit Rating Agency services provided to Rated Entities and/or Related Third Parties.

Conditions of use / exclusion of liability
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