Spain is no longer master of its economic destiny/ from WSJ
By SIMON NIXON
When José Luis Rodríguez Zapatero announced Friday that a general election would be held on Nov. 20, the Spanish prime minister can't have been under any illusions the last four months of his term would be easy. But he probably imagined he would at least be able to enjoy his summer holiday.
Instead, he was forced Tuesday to cancel his plans to respond to the latest escalation of the euro crisis–one that has engulfed Spain, whose 10-year borrowing costs now stand at 6.3%. So much for the latest euro rescue plan launched 11 days ago.
Few in Spain will be surprised at this turn of events, even if the speed at which Spanish and Italian bond markets have spiraled has caused alarm.
I was in Madrid on the day the deal was announced and the anxiety among policy makers, financiers and business people was palpable.
There was little confidence the new euro deal would draw a line under the crisis. The best hope was that it might buy enough time for the election of a new government that could win back the confidence of markets; that no longer seems likely.
The contrast with a previous visit to the Spanish capital in June 2010 during a previous episode of euro stress was striking. Then, the attitude was far more bullish that Spain possessed both the means and the ability to tackle its own problems.
Over the following year, the government embarked on a series of tough measures to tackle the crisis, including deep austerity to cut the budget deficit to 2.1% by 2014 from 11% in 2009, and reforming the savings banks, pensions and labor laws.
The markets approved: When Portugal was forced to seek a bailout in January, Spanish bond yields didn't budge: Spain appeared to have convincingly decoupled from the euro periphery.
What changed Spain's fortunes decisively was Germany's insistence during the latest Greek bailout debate that losses should be imposed on government bondholders. In the face of dire warnings from the European Central Bank over the inevitable contagion risks this would create, Germany refused to back down. The market rightly concluded that assurances that Greece was a one-off case weren't worth the paper they were written on. The result has been to transform European sovereign debt into "bail-in bonds," at risk of write-downs as an integral part of any future bailout package. For a country such as Spain, battling to prove its credibility, this has proved deeply damaging.
The question is what, if anything, Spain can do to salvage the situation. The sovereign bond crisis already risks spreading to other parts of the economy. Spanish banks have been shut out of funding markets for weeks, raising the specter of reduced credit and higher borrowing costs for the economy at a time when households and companies are trying to cut leverage equivalent to 250% of GDP. The European bank stress tests failed to reassure investors that the banks are adequately capitalized or real-estate losses fully recognized. Analysts believe up to €50 billion of state capital may be needed.
Similarly, Spanish regional governments, many already struggling to maintain budget deficits within the legal limit of 1.3% of local GDP as tax receipts fall, now find themselves struggling to raise funding in the markets; between them, they have over €20 billion of bonds to refinance this year. Some have already said they may struggle to pay suppliers and employees. The situation has become more complex since the opposition Partido Popular won the bulk of regional elections earlier this year, leading to increased levels of mistrust with the Socialist central government in Madrid, which has ruled out any liquidity support. A showdown later this year seems likely.
All this is playing out against the backdrop of a slowing global economy that puts the government's ambitious fiscal consolidation plans at risk. The International Monetary Fund reckons the government's forecast the economy will grow 2.3% in 2012 is too ambitious; it estimates growth will be just 1.6%. Although competitiveness has improved, exports have held up and wages have fallen, productivity growth is weak and unemployment remains at an eye-watering 21%. Much tougher labor market reforms are needed to end the practices of nation-wide industry bargaining and automatic inflation-linked rises so that individual firms can negotiate directly with their employees. Spanish severance payments are still high compared to European levels.
It is probably too late to expect much from Mr. Zapatero's government. Although its fiscal efforts have been impressive, it is now effectively a lame-duck administration trailing heavily in the polls.
Spain's best hope now lies in the opposition leader Mariano Rajoy: Just as tough talk on the U.K. government deficit by then-opposition leader David Cameron helped calm the markets ahead of last year's general election, it is just possible that if Mr. Rajoy set out a bold reform agenda and a pledge to implement it rapidly, including a swift recapitalization of the banks and much tougher structural reforms to boost competitiveness, the markets will similarly give him the benefit of the doubt.
The snag is that the election is still four months away and there is so far no sign that Mr. Rajoy will deliver the message the market wants to hear before then. Following the latest twist in the euro crisis, Spain may have lost the benefit of time. By the time voters go to the polls on Nov. 20, Spain's fate may have been decided elsewhere.
Write to Simon Nixon at simon.nixon@wsj.com
Comments