Spain's economic troubles
Nov 26th 2009 | MADRID
From The Economist print edition
The government may still be too optimistic over the country’s prospects
AP Zapatero, eternal optimist
SPAIN is the new sick man of Europe. That was how some commentators greeted the news that, although most other European Union countries climbed out of recession in the third quarter, Spain’s economy shrank, for the sixth quarter in a row. Yet a 0.3% drop in GDP was barely as big as Britain’s. And Spain has suffered a smaller one-year fall than the EU average, with Germany, Italy and Britain all doing worse.
In none of these countries, however, has the pain of recession bitten so deep. Spain’s 19% unemployment rate is second only to Latvia’s in the EU. It reflects a structural hangover in a country that got drunk on bricks and mortar before its property bubble burst in 2007. Because of this, Spain entered recession in an already weakened state. As others recover slowly but predictably, Spain will need more time and extra care. Even optimists expect real recovery to come only in 2011.
Spain’s Socialist prime minister, José Luis Rodríguez Zapatero, admits now that the housing boom, which peaked in his first term, was a bad thing. Some 900,000 of the new unemployed are largely unskilled construction workers, whose jobs may have gone for ever. Yet he is averse to pessimism. Recovery has started, he insisted at a round-table organised by The Economist on November 23rd. He also claimed that Spain’s potential growth remained above the euro-area average.
Mr Zapatero’s credibility was dented when he refused to admit the scale of Spain’s problems as it fell into recession. Even so, he believes he can steer the country back to growth. This week his government planned to unveil a “sustainable economy” law, the main part of a strategy that looks forward to 2020. But the law will be long on good intentions and short on tough measures. Renewable energy, modest liberalisation and more training are likely to be on the list. Bold labour-market reforms to make it easier to fire workers will not be, to avoid upsetting Mr Zapatero’s trade-union friends. He prefers to rely on talks between the “social partners” that are unlikely to produce big change.
Spain’s two-tier labour system is inefficient as well as unfair. Half the workers are on permanent contracts that make them extremely hard (and costly) to fire. Most of the rest scrape by in a netherworld of short-term contracts, bouts of unemployment and the black market. Workers on short-term contracts were the first to lose their jobs when recession hit. As Elena Salgado, the finance minister, claims, this gives the system a certain flexibility. But it is bad for productivity. Inefficient workers on permanent contracts are protected. There is no incentive to train the young and the temporary.
A further rise in unemployment may come from smaller companies squeezed between tough labour laws and a credit drought. Given protection for permanent employees and limited wage flexibility, many small and medium-sized enterprises risk bankruptcy. And unemployment is itself a cause of future woes. It costs the state money in lost tax revenues and extra benefit payments. It triggers mortgage defaults and depresses consumer spending.
Ms Salgado is putting the brakes on fiscal expansion next year through tax rises and a slowdown in public spending—though infrastructure, including what will soon be Europe’s most extensive high-speed rail network, will continue to receive money. The state rail company, Renfe, has already snatched half the Madrid-to-Barcelona traffic. Indeed, with its efficient, green technology, Renfe is a symbol of the new sustainable economy that Mr Zapatero wants to create. Yet this will still be a long-term project, and it may require bigger improvements than any now planned in education, as well as more spending on research and development.
Unfortunately, the shocking deterioration in the public finances, which have swung from a budget surplus in 2007 to a deficit of over 10% of GDP, is forcing retrenchment. Planned rises in taxes on income and sales are leading some economists to lower their forecasts for next year. The rises are taking purchasing power away from consumers, explains Javier Pérez de Azpillaga of Goldman Sachs, who sees a return to modest growth in the fourth quarter followed by dips back into negative figures during a bumpy 2010.
With lower public spending and few radical reforms in prospect, where might new growth come from? A short-term saviour is the rest of the EU, which takes two-thirds of Spanish exports. The economy may ride on the coat-tails of recovery in France and Germany for a while. But Spain must one day do a lot more to put its own house in order.