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Spanish real GDP fell by 3.6% in 2009 in line with the world economic downturn while the unemployment rate reached 18.1%, highlighting the need for domestic reform. Furthermore, investors and EU members feared contagion from the public debt crisis in Greece in early 2010.
Spain passed austerity measures at the end of May 2010 to reassure markets about cutting its general government budget deficit and improving its macro-economy but measures will be unpopular.
Spain’s public debt-to-GDP ratio is relatively low by EU standards at 51.8% of GDP in 2009, under the EU Growth and Stability Pact limit of 60% of GDP. It also compares favourably to countries such as Germany (72.4%), France (76.0%), Italy (115.2%) or Greece (113.3%);
Public debt in selected European countries: 2004-2009
% of GDP
Source: Euromonitor International from National Statistical Offices/Eurostat/International Monetary Fund/OECD.
However, Spain is experiencing high risk premiums on its sovereign debt, primarily due to its large general government budget deficit of 11.2% of GDP in 2009 according to Eurostat, high unemployment (expected to be 20.2% in 2010 – the highest in Western Europe), and low growth prospects. Spain’s unemployment has soared because of the rigidity in the labour market and the large number of unskilled workers made redundant in the construction industry in 2007-2008;
The aim is to cut Spain’s general government budget deficit from 11.2% of GDP in 2009 to 9.3% in 2010 and 3.0% by 2013. The austerity package will cut over €15.0 billion (US$21.4 billion) in spending.
The Spanish government will cut public sector wages by 5.0% in 2010 starting in June and freeze them in 2011 while ministers will take a 15.0% pay cut. Consumer spending will be affected as the disposable income of public sector workers falls;
The government will cut €6.0 billion (US$8.6 billion) in public infrastructure investment in 2010 and 2011 along with a freeze on pension payments in 2011 and a restriction on semi-retirements. Some planned infrastructure projects will be cancelled or postponed along with the benefits that would have been brought to trade and business;
Remaining measures include scrapping the €2,500 childbirth allowance from 2011, a €600 million cut in foreign development aid as well as efficiency savings on the cost of pharmaceuticals. Consumers will divert spending from luxury goods to necessities and cheaper goods, as confidence falls;
Prime Minister Zapatero will come under pressure from his union allies and left-leaning parties in his socialist coalition as they accuse him of hitting pensioners and everyday families while sparing high earners. Social unrest is expected;
Austerity measures will put some investors and eurozone members at ease. However, private demand is unlikely to replace the decreases in public spending to drive economic growth. Real GDP is expected to decline by 0.4% in 2010 and grow meagerly in 2011 and 2012 at 0.9% and 1.5% respectively.
Real GDP growth and unemployment rate in Spain: 2008-2013
% and % of economically active population
Source: Euromonitor International from International Monetary Fund (IMF), International Financial Statistics, International Labour Organisation and World Economic Outlook/UN/national statistics.
To meet the budget targets, the Spanish government is counting on real GDP growth of 0.4% in 2010, 1.3% in 2011 and 2.7% by 2013, which may be optimistic. Euromonitor International forecasts a real GDP contraction of 0.4% in 2010;
An ageing population will also burden the public finances as the proportion of people aged 65+ is expected to rise from 17.1% of the population in 2010 to 19.1% in 2020;
The deficit reduction does not solve Spain’s structural labour market problems of a two-tier system of a group of permanent contracts and those on temporary contracts. If negotiations with unions fail, the government will impose reforms by royal decree on 16th June 2010, which will likely lower severance pay from 45 to 33 days for each year worked as well as make it easier for companies to claim economic problems, allowing them to pay a 20-day per year severance package. Reform of the labour market was under discussion in June 2010.