EU and IMF officials launched their first review of Portugal's international bailout on Monday, with the focus on how the government plans to correct a budget slippage and meet its promised fiscal targets this year.
The verdict on Lisbon's efforts to meet the terms of the 78-billion euro rescue package agreed in May will help determine whether the lenders release a second tranche of funds or set additional conditions for doing so.
The next review mission has started today... We are aware that the government has said there was some deviation from the original agreed program and has also announced it will take measures to counter this deviation, European Commission spokeswoman Chantal Hughes said.
She said the mission on the ground will look at all the details with the authorities.
They will also serve as a litmus test to show markets whether Portugal can avoid following Greece in requesting a second bailout.
Analysts say, however that Portugal has some room for maneuver and that talk of a second bailout is still premature.
Portugal only has to come back to the market in 2013, which means there is a bit more breathing space, said Giada Giani, an economist at Citi in London. In the short term, there is no need for a second bailout, I don't think it's going to be an issue at least for the next two to three quarters.
The quarterly review, set to last around two weeks, will assess the government's progress on measures including tax hikes, spending cuts and structural reforms.
Last week, Fitch Ratings postponed its decision on Portugal's credit standing to the fourth quarter from the end of July, saying its review will take into account the results of the first EU/IMF evaluation.
But fellow agency Moody's had cut Portugal's rating to junk status, citing concerns that the country may follow Greece in needing a second bailout from the international bodies.
AHEAD OF THE CURVE
Portugal's bond yields have fallen somewhat since European leaders agreed a new rescue package for Greece and eased the terms on existing loans for all three of the euro zone countries bailed out in the debt crisis to date.
A new government has also sought to get ahead of the curve on reforms and improvement of public finances since taking office in June, ending the state's golden share in companies and changing the labor law to cut severance costs.
Prime Minister Pedro Passos Coelho's Social Democrats, who rule in a coalition with the rightist CDS-PP, met another deadline on Sunday by selecting a buyer for failed bank BPN.
Still, the government is under pressure to demonstrate how it plans to correct a budget slippage of around 2 billion euros it says it inherited from the previous Socialist government.
Under the bailout terms, Portugal has to cut the budget deficit this year to 5.9 percent of gross domestic product from 2010's 9.2 percent at a time when the economy is expected to contract around 2 percent this year.
Finance Minister Vitor Gaspar has said the slippage relates to late payment of salaries and unpaid debts at ministries, an inventory of which is due to be provided to the troika.
The troika will certainly want to know if the slippage really exists, where it comes from, and what impact it will have, said Filipe Garcia, head of Informacao de Mercados Financeiros economic consultants in Porto.
We don't expect anything spectacular from this first review though, he added.
The government last month announced an extraordinary 50 percent levy on year-end bonuses, set to raise around 1.25 billion euros in tax revenues, but has yet to detail spending cuts to cover the remainder of the slippage.
Garcia added that another topic on the troika's agenda will be a reported extra burden from public-private partnerships on state coffers.
Citi's Giani said, however, that any such revision of the public sector's obligations would be done with the lenders' blessing and should not penalize the government's record.
If they don't meet the fiscal target this year it will be not be good... but if this comes from revising the starting point rather than poor austerity performance, the EU-IMF funds will keep flowing, so it's no catastrophe, she said.
(Additional reporting by Andrei Khalip; editing by Patrick Graham)