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Running on Ẽmpty

Austerity after stimulus. The government reigns in spending to calm jittery debt markets, but is an economy mired by recession and unemployment ready?

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A year after Spain’s centre-left government officially launched a massive stimulus package known as the Plan Ẽ, workers are still losing their jobs, public debt levels are scaring markets, and the economy is not likely to emerge from recession until 2011 at the earliest.

Plan E

A sign advertising work funded under Plan E on a building in Mallorca.

Plan Ẽ, with its billions for public works projects, tax breaks and subsidies, was never intended to be more than a temporary bandage to get Spain through the worst of the fallout from the international financial crisis and the collapse of the domestic real estate and construction sector. But the wounds inflicted on Spain’s once booming economy have turned out to be slow to heal, and tearing the plaster off – as, for all intents and purposes, the government has now proposed – will probably be an acutely painful experience. The question is whether it will be a curative one as well, healing in the process the economic ills that have long undermined Spain’s potential.

In late January, Economy Minister Elena Salgado announced that the Socialist Party government will slash public spending by €50 billion – raking back an amount similar to the combined cost of stimulus measures rolled out since mid 2008. The cutbacks will spare only a few areas, among them education, antiterrorism, research and development, pension payments and unemployment assistance. They will be accompanied by previously announced tax hikes, a reform of the overstretched pension system to raise the retirement age to 67 from 65, and an overhaul of Spain’s labour market. It is medicine that many citizens and the Socialist government’s traditional labour union allies are likely to find hard to swallow.

“Adjustment now is more necessary than ever,” Salgado told reporters in a media conference. “The goal is to reduce the deficit to 3 percent of GDP in 2013… We want to give citizens confidence that we are going to do what we have to do.”

Her target audience, however, was not so much Spanish citizens, but international debt markets.

With stimulus spending having turned a budget surplus in 2007 into a budget deficit equivalent to 11.4 percent of GDP by last year, investors have grown concerned that Spain could follow in the footsteps of Greece, which has seen its bond prices plunge amid fears the government will not be able to service its debt.

Spanish government officials have insisted that “there is no comparison” between the Spanish and Greek situations, but as Spanish bond yields – which move inversely to prices – have risen and the stock market has tumbled this week, investors have shown that they think otherwise.

Spain’s is the biggest economy of the four euro-zone countries (Portugal, Ireland, Greece, Spain) whose messy budgets and big debts have earned them the unflattering collective acronym PIGS in economic circles. Whereas Greece’s economy accounts for less than 3 percent of euro-zone GDP, Spain’s represents close to 12 percent.

“If Greece goes under, that’s a problem for the euro zone,” Nouriel Roubini, a New York University professor famed for predicting the global financial crisis, said at the World Economic Forum at Davos, Switzerland. “If Spain goes under, it’s a disaster.”

In announcing the austerity plan and economic reforms, the Spanish government has come to terms with the fact that it must now deal with the macroeconomic side effects of the cure it tried to apply to save Spain from the worst symptoms of the global financial and economic malaise. Though the plan is less radical than austerity measures recently announced by Greece and Ireland, there is a risk that the government may have misjudged Spain’s recovery prospects and could end up prolonging or even deepening the recession.

A double whammy?

“Spain could face a double whammy,” argues Ben May, an economist who covers the Spanish economy for Capital Economics in London. “Not only is it withdrawing the stimulus spending but it is going in the opposite direction and tightening policy.”

It will be a hard remedy to sell to a population in which almost one in five workers is unemployed, 1.2 million households have no income whatsoever other than unemployment pay or social security benefits, and whose patience waiting for the promised results of measures such as Plan Ẽ is starting to wear thin.

“There are a lot of signs up announcing projects funded by Plan Ẽ and they’re digging up a lot of streets but I don’t see the effects [on the economy as a whole],” says Carlos, a Barcelona resident who works in the film industry.

Prime Minister José Luis Rodríguez Zapatero and other government figures have repeatedly touted the benefits of the stimulus and have said the “social effects” will soon emerge in the form of returning consumer confidence, consumer spending and job creation. Some measures, such as subsidised car purchases, have had only a fleeting impact on the overall economy, while even many public works initiatives, a major focus of the Plan Ẽ stimulus, may turn out to be of little long-term benefit.

“It’s hard to gauge the impact of different measures, but I think it’s safe to say the overall downturn would have been worse in Spain had the government not stepped in,” says May.

Almost half a million out-of-work builders were contracted by the government in the second half of last year, with money channelled through local and regional administrations. Many were put to work re-asphalting roads, sprucing up government buildings and beautifying town squares, in the process offsetting the immediate effects of the collapse in Spain’s previously booming residential construction industry. But as their short-term contracts end, these workers will soon find themselves back on the dole unless the economy turns round and companies start hiring – something that may happen later rather than sooner.

The International Monetary Fund’s most recent forecast predicts that the Spanish economy will contract by 0.6 percent this year after shrinking 3.6 percent in 2009. If correct, Spain will be the world’s only advanced economy to fail to emerge from recession this year.

Even the Spanish government has acknowledged that, in employment terms at least, things may get worse before they get better.

“I don’t rule out that at some point this year, temporarily, the jobless rate will reach 20 percent,” Economy Secretary Jose Manuel Campa admitted.

He spoke after the National Statistics Institute said Spain’s unemployment rate rose to 18.8 percent in the fourth quarter of last year, up from 17.9 percent in the third. Among people aged under 25, the unemployment rate is a whopping 44.5 percent, according to Eurostat, the European Union’s statistics agency.

With 4.3 million jobseekers out of a working age population of around 22 million, Spain has the largest proportion of people without jobs of any country in the euro zone by a large margin – Slovakia has the next highest unemployment rate in the monetary union at 13.6 percent. Last year, Spanish workers accounted for one out of every three people who lost their jobs in the euro zone.

Coupled with the collapse of the construction industry (which employed large numbers of immigrants), rigid labour market regulations that discourage hiring are seen by many economists as being to blame for Spain’s high unemployment rate, particularly among the young.

Reforming the labour market – like overhauling the pension system to cope with the effects of an aging population – is a project that Zapatero been reluctant to tackle since being elected in 2004 despite repeated calls for action from the European Commission, the IMF and other institutions. Now, it seems, he has no choice but to take a rather sickly Spanish bull by the horns.





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Published: Feb 4 2010
Category: Business
Republication: Creative Commons, non-commercial
Short URL: http://iberosphere.com/?p=433
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10 Comments for “Running on Ẽmpty”

  1. […] about his country’s recovery and huge deficit and impress the industrialised world with an austerity plan that would save around 50 billion euros by 2013, allied to ambitious pension and labour […]

  2. Given the huge amount of skills and equipment available following a long-running construction boom, it may have been well-nigh impossible for the Government to resist a public works programme as part of its response to the crisis. However, it is hard to see the value that much of it brings in terms of helping the nation return to economic growth. For instance, the extra car parks now being built under Madrid are creating a year's worth of short-term jobs – and 50 years or more of problems of yet more traffic, environmental emissions and barriers to travel behaviour change. Far more important is tackling issues such as the pension age and labour laws, to reduce public spending and free up the economy. Unfortunately the unions are like so many of their European cousins – unwilling to see beyond the interests of their existing members for the benefit of their members' children – as like as not unemployed as a result of the very 'rights' they seek to protect. Change will hurt – but a failure to change will hurt even more, even longer.

  3. Frederico, I agree. A lot of the stimulus spending appears to have gone on projects that offer short term jobs – and hence immediate political gain – but do little to create jobs and economic growth in the long term. And, as you say, reforming labour laws would have far more impact in terms of ending Spain's structurally high unemployment problem, particularly among the young. I'm planning to write on that subject soon.

  4. […] A painful recession that has led to the highest unemployment rate in the euro zone at almost 20 percent – 40 percent among workers under 25 – has changed all that. And the government has finally embarked on a serious effort to put labour reform on the table. However, it hasn’t slammed down any sweeping proposal for a major overhaul, instead opting to shuffle its papers and nudge them cautiously in the direction of labour unions and employers. […]

  5. […] was already plenty of cynicism at home and abroad about Spain’s economic credentials when its tenure began. And when Zapatero attended the Davos World Economic Forum in late January, […]

  6. […] got into this mess for several reasons, including bad government stimulus policy like Plan Ẽ, according to Iberosphere, and the European Union’s economic policies which put Spain at a competitive disadvantage due […]

  7. You have a new fan! I love your stuff here and will be back again.

  8. […] account shortfall of 5 percent, coupled with private sector indebtedness at 178 percent of GDP, a recession-bound economy and unemployment above 20 percent. With the Greece issue now belatedly being dealt with by the EU and IMF, anxious investors have set […]

  9. […] However, the prime minister’s announcement on May 12 of a broad and radical raft of austerity measures has seen him perform the biggest U-turn of his six years in government and tear up his big-spending, social welfare doctrine. […]

  10. […] sales, which saw a 22.9-percent annual plummet in the second quarter after a government-sponsored vehicle purchase incentive scheme […]

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