Bank of Portugal Slashes 2026 Growth Forecast to 1.8 Percent Citing Middle East Conflict and Storm Damage

The Bank of Portugal cut its 2026 economic growth forecast by 0.5 percentage points to 1.8 percent, citing twin shocks from geopolitical instability and domestic climate disasters that have upended the country's previously optimistic outlook.

In its March Economic Bulletin released on Wednesday, the central bank explained that the downgrade from the 2.3 percent growth rate projected in December reflects both the economic ripple effects of the late-February US-Israel attack on Iran and the damage caused by Storm Kristin and sustained heavy rainfall in January and February.

"This projection reflects the deterioration of the external framework following the attack launched by the US and Israel on Iran at the end of February," the Bank of Portugal said in the report.

Energy Shock Hits Economy and Household Budgets

The Middle East conflict immediately triggered a global energy price surge that continues to reverberate through Portugal's economy:

• Oil prices spiked to over $100 per barrel by March 13—the data cutoff for the bulletin—up from $63 in December 2025, representing a 49 percent increase in euro terms.
• European natural gas prices jumped from €28 per megawatt-hour in December to €51 by mid-March, putting severe pressure on businesses and household energy bills.

The central bank revised its 2026 inflation forecast sharply upward to 2.8 percent from 2.1 percent, with Portuguese families already facing higher costs at the pump, in utility bills, and across consumer goods as the energy shock works through the supply chain.

"The abrupt and significant rise in energy commodity prices has a negative impact on activity and a positive impact on inflation, especially in 2026," the Bank of Portugal noted.

The good news is that this inflationary spike should prove temporary. The bank forecasts inflation moderating to 2.3 percent in 2027 and 2 percent in 2028 as the energy shock dissipates and long-term inflation expectations remain anchored.

Storm Damage Compounds the Slowdown

Domestically, Portugal began 2026 with a series of extreme weather events that added to the economic headwinds. Between late January and mid-February, Storm Kristin and persistent heavy rainfall battered the country, with the Centro region bearing the brunt of the damage.

The government declared a state of calamity in 68 municipalities—home to 17 percent of Portugal's population—as the storms damaged residential and commercial buildings, agricultural land, and critical infrastructure including electricity distribution networks, transportation routes, and communications systems.

The impact on economic activity was immediate and severe: the Bank of Portugal projects zero GDP growth in the first quarter of 2026, with a gradual recovery to 0.4 percent quarterly growth in the subsequent quarters.

Several hundred million euros in Recovery and Resilience Plan (PRR) projects were either damaged or derailed by the storms, forcing the government to seek Brussels' approval to reprogram the funds.

Labor Market Holds Firm, PRR Continues

Despite this challenging backdrop, the Bank of Portugal identified several stabilizing factors that should support the economy through 2026:

• Resilient employment: The unemployment rate is forecast at 5.9 percent in 2026, stabilizing around 5.8 percent in the following years—historically low levels that should continue to support household consumption.
• PRR investment: Gross fixed capital formation is expected to grow 3.8 percent this year, above the 3.5 percent registered in 2025, driven by public investment funded through EU recovery funds.
• Expansionary fiscal policy: The government's orientation toward increased public spending provides additional economic support, though it also complicates the fiscal outlook as storm recovery costs mount.

The downward revision was not entirely unexpected. As early as mid-March, Prime Minister Luís Montenegro acknowledged that Portugal might run a budget deficit in 2026 as storm reconstruction and energy-related spending pressures overwhelm the planned 0.1 percent surplus target.

Medium-Term Outlook: Gradual Recovery

Looking beyond 2026, the central bank maintains a cautiously optimistic stance. Growth is projected to reach 1.6 percent in 2027 and 1.8 percent in 2028, slightly above previous estimates.

Portugal is still expected to outpace the eurozone average—the European Central Bank revised its 2026 forecast for the single currency area to just 0.9 percent—though the growth differential will narrow over time.

However, medium-term growth will face structural headwinds. The Bank of Portugal warned that economic dynamism in 2027 and 2028 will be increasingly constrained by:

• A slowdown in labor supply growth due to declining immigration flows
• Reduced net transfers from the EU as PRR funding tapers off and transitions to the next programming period

What This Means for Expats

Higher living costs through 2026: The 2.8 percent inflation forecast—up from 2.1 percent—means expats should budget for above-target price increases, particularly in energy-dependent categories like utilities, fuel, and food. Electricity and gas bills will reflect the global energy spike, and imported goods may see secondary price effects.

Stable employment landscape: The 5.9 percent unemployment forecast is positive for job seekers and those on employment-based visas. Portugal's labor market resilience should continue to create opportunities in sectors like tech, tourism, and skilled services, even as overall economic growth slows.

Property market implications: Slower GDP growth and higher borrowing costs (as inflation remains elevated) could moderate Portugal's red-hot property market. First-time buyers and those waiting on the sidelines may see some easing of competition, though major metro areas will likely remain tight.

Public services under pressure: Storm recovery and energy cost increases will strain government budgets. Expats relying on public healthcare, education, or other services should be aware that fiscal pressures could slow planned improvements or capacity expansions in the National Health Service and other public systems.

Watch the euro exchange rate: If inflation remains elevated relative to other eurozone economies, the European Central Bank may keep interest rates higher for longer, which could strengthen the euro against currencies like the US dollar or British pound—a consideration for expats transferring money into Portugal or receiving income in foreign currencies.

Downside Risks Remain Elevated

The Bank of Portugal emphasized that risks to the forecast are skewed to the downside for growth and to the upside for inflation.

A prolongation or escalation of the Middle East conflict could trigger further commodity price spikes, increased financial market volatility, and disruptions to global supply chains. Meanwhile, rising international trade tensions—the US recently imposed a 10 percent common external tariff on all trading partners—pose risks to Portuguese exports, particularly in manufacturing sectors.

"In this context of geopolitical tension and demographic constraints, it is essential that Portugal maintain its trajectory of reducing public and private debt, continue to strengthen the qualifications of the population, and create conditions to increase investment and the adoption of new technologies," the Bank of Portugal said.

The central bank also pointed to the forthcoming PTRR—Portugal Transformation, Recovery and Resilience program—currently under development in response to the climate disasters, as a potential additional stimulus for economic activity. A possible indirect benefit could also come from increased European investment in defense and infrastructure prompted by the current security environment.

For now, Portuguese households and businesses face a year of economic adjustment: slower growth, higher prices, and an uncertain geopolitical landscape that could yet deliver further surprises—positive or negative—before 2026 is through.