Poland Defence and Security Report Q2 2009

In February, a government savings plan worth PLN19.7bn was announced, aimed at bolstering economic stability and preventing an escalation in the government's external borrowing costs. The majority of the savings would come from ‘freezing investments’, said Slawomir Nowak, a top aide to the Prime Minister.

Among these investments is Poland's ongoing force modernisation programme, which aims to improve force compliance with NATO standards. In March 2009, Defence Minister Bogdan Klich said that ‘as regards technical modernization our funds have been cut by half’, and that the army technical modernization plan is a ‘rather gloomy prospect for 2009’. This is in stark contrast with the December announcement that the Defence Ministry’s investment budget for 2009 would be the highest since the dissolution of the Warsaw Pact.

In January 2009, Polish armed forces ended their long history of conscription, a significant milestone in its force professionalisation programme. The remaining conscripts will complete their nine month service by August.

A development that continues to dominate is Poland’s agreement, on August 20 2008, to allow the US to install 10 interceptor missiles on Polish territory. The agreement calls for deployment of interceptor missiles in Poland and an advanced radar station in the Czech Republic. The defenses are designed to protect U.S. European allies from the threat of long-range ballistic missiles and are, in particular, aimed at protecting Europe from potential attack by Iran. All 26 NATO allies are backing the deployment, which is, however, vehemently opposed by Russia. The U.S. denies that the missile defense poses any threat to Russia’s ballistic arsenal, but their deployment has strained relations between Poland and Russia. In response to the development, Russia could make an ‘asymmetrical response’ by supplying Venezuela with the superior S-300 air-defence system.

Poland continues its push for eurozone entry in 2011, despite the deteriorating exchange rates of the eastern European currencies. Prime Minister Donald Tusk reiterated this position as recently as March 1 2009 in Brussels, at an EU summit discussing the financial crisis. However, we believe that this accession target is a little too optimistic, with BMI predicting an adoption date of 2013.

While we believe that the savings plan will help bolster economic stability, we note that the government's budget projections are based on a relatively favourable economic growth forecast of 1.9%, compared with BMI 's projected 0.8% contraction this year. We believe the severity of the economic downturn in Poland, beyond what is anticipated by Polish policymakers, will mean that the government will come under increasing pressure to ramp up fiscal spending this year. Indeed with unemployment forecast to rise to 11.8% by end-2009 from 9.5% in 2008, and with real wealth and wage growth taking a hit, the government may have little choice but to loosen fiscal policy. Furthermore, while favourable domestic lending conditions have negated the need for the government to jump in with a substantial fiscal stimulus package, we still expect credit conditions to deteriorate this year. With the Polish economy continuing to lag behind the eurozone and with international credit markets taking time to thaw, we expect both lending and domestic demand to deteriorate this year, which will drive up demand for government spending. As such, while the government targets a fiscal deficit equivalent to 2.5% of GDP, we expect to see some slippage in the budget, with the deficit coming in at 2.8% in 2009.