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The survival of Prime Minister Pedro Passos Coelho's centre-right coalition was hanging by a thread as the rightist CDS-PP party debated whether to withdraw its support and leave the government without a majority. Like ordinary Portuguese, the CDS-PP is resisting further spending cuts needed to keep Portugal on track to meet the debt-reduction goals laid out in its €78 billion bailout programme with the European Union and International Monetary Fund.
Patrick Artus, chief economist with French bank Natixis, fears Portugal is battling a lost cause, for as its economy keeps contracting so does the tax base needed to put the public finances on a stable footing. The result is a recessionary spiral - as Greece has already discovered. "Despite an extension of maturities on loans from Europe, Lisbon is very far from stabilising its ratio of public debt to GDP", Artus said. "If you measure it against the usual definition of solvency, Portugal is clearly not solvent."
Rigid goods and services markets, which have kept the price level high in Portugal despite a drop in wages, thus throttling domestic demand, compound the gloomy picture. "Comprehensive structural reforms to revive productivity and competitiveness are critical to rebalancing the economy and restoring sustained growth", the OECD said in a recent report.
Optimists point out that Portuguese exports have performed well. But Eileen Zhang, director of European sovereign ratings at Standard and Poor's, said the outlook for further improvement was weak given a failure to lure significant foreign direct investment. "The hope for Portugal is that the structural reforms that were introduced during the first two years of the programme can be implemented to increase the flexibility of the economy to attract FDI in order for economic potential to pick up again", she said.
Evidence of stabilisation in neighbouring Spain, Portugal's biggest market, is also encouraging. Manufacturing held steady in June after a two-year slide, according to the latest purchasing managers' index, while services contracted at the slowest pace in two years
Portugal's political strains also invite comparisons with Italy, where former prime minister Mario Monti has threatened to withdraw support from the coalition of his successor, Enrico Letta. There are worrying economic parallels, too, starting with a woeful track record since the launch of the euro. Italy is the only one of the OECD's 34 Member States whose GDP per capita fell between 2000 and 2011.