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Overall, the favourable economic performance of the Portuguese economy noted in previous Surveys has continued, but there are a number of warning signals. Output growth has remained strong in 2000 and unemployment has fallen to a low level, but after seven years of expansion, the output gap has closed and pressures on production capacity have started to be felt. The underlying inflation differential vis-à-vis the euro-area average has remained around 1½ percentage points, and the current account deficit has widened, reaching 10¼ per cent of GDP. Even within a monetary union, the accumulation of private-sector debt associated with a current account deficit of this magnitude will, if no policy actions are taken, necessarily lead to an endogenous reaction by households to cut back their borrowing. There is already evidence that an adjustment process has begun, evidenced in the slowdown in domestic demand and a stabilisation of the saving ratio. But the process of restoring better balance to supply and demand will require strong support from fiscal policy, which remains the main macroeconomic tool available to ensure that the adjustment takes place at a sustainable pace. Portugal has consistently met its budget deficit targets under the Stability and Growth Pact, but these have not been ambitious given the generally favourable economic conditions and continue to be unambitious over the next four years. Moreover, in meeting its budget deficit targets, Portugal has increased both tax revenues and current expenditures sharply relative to GDP in the last few years. In the future, fiscal adjustment is likely to require better control of public spending, which calls for further structural reform in the health and other social spending sectors, as well as stronger action to rein in the public sector payroll. Indeed, a fiscal reform that reduces distortions, improves tax compliance and harmonises tax rates at a lower level, as foreseen in some of the current government proposals, would strengthen Portugal's supply-side performance, while also enhancing equity. This would be reinforced by further steps to increase product market competition and re-energise the privatisation programme. Combined with the on-going efforts to enhance human capital and the infrastructure, such structural reforms should allow the convergence of per-capita incomes to levels in more advanced EU partners to continue on a sustainable basis.