Dr Belén Rey on Spain’s economic crisis

We often hear contradictory views on Spain’s economic performance and whether the state of crisis would have been overcome or not. To understand the situation accurately and to try and know where exactly we could be heading, we interviewed Dr. Belén Rey, an economist, and professor at the Madrid-based Complutense university.

Broadly speaking, how has Spain’s economic and socioeconomic situation evolved since the 1960s?

Spain has managed to out-perform the other major European countries in terms of average growth from 1960 to 2008. Major structural changes triggered by economic development after 1950 have been pursued and deepened, in particular in a transition away from agriculture, opening up to the outside world along with the internationalization of business and a long list of transformations in the social and productive structure.

Among our main unresolved problems, there are still the following: 1) a very high structural unemployment and, 2) a productive structure based on the services sector and in particular tourism. Another specific weakness of the Spanish economy has been and still is its low investment in R+D+I, which amounts to only 1.2% in 2019.

These last years, Spain lived a deep financial and economic crisis. Besides, risks of recession seem to be looming still. Why?

According to the Bank of Spain’s explanation, Europe’s growth model is failing, as it is based on exports to compensate for the chronic shortage of domestic growth. This failure is partly due to global geopolitical tensions and continuous changes in the external environment. A less obvious reason is the significant excess savings position of the Eurozone. Specifically, there are around 300 billion euros of savings invested in the rest of the world, with increasingly unpredictable returns.

A recession may affect Spain and other EU countries due to another important issue, the European Structural Funds. New economic perspectives are going to be focused on artificial intelligence, new technology, boosting innovation and modernization of the energy potential of the EU and decreasing carbon dioxide emissions. This would require greater contributions from Spain, which already has a debt of 100 percent of its GDP. Furthermore, the total EU budget is going to be lower than in previous years due to Brexit, yet we would need fiscal stimulus for growth.

What are Spain’s economic assets? And what are its limits?

According to the balance of payments (BoP) statistics of the Bank of Spain, in an environment of ongoing economic upturn, Spain was once again a net lender in 2018, though to a lesser extent than in preceding years. The decline in net lending is explained by the decreasing surplus in goods and services, which largely reflected the slowdown in external markets, the negative impact on exports of the cumulative euro appreciation since 2017 and the rise in oil prices. The nation’s net lending, the positive amount of other flows and GDP growth were conducive to a decline in the Spanish economy’s negative net international investment position (IIP), as a percentage of GDP, for the fourth consecutive year. In terms of financial flows, and despite the deterioration in the global macro-financial scenario in the second half of the year, international investors made net purchases in the categories of portfolio investment (mainly, long-term bonds issued by Spain’s national government) and direct investment headings in 2018, a sign of their continuing confidence in the Spanish economy. However, the fact that the Spanish economy’s negative net IIP remains high (77.1% of GDP), both historically and by international standards, makes it vulnerable to shocks in the international capital markets.

It looks like Spain is struggling to turn its economic perspectives into political assets. Indeed, Spain’s most important clients do not necessarily consider that Madrid would be as important as Paris or Berlin. Why?

According to the 2019 World Investment Report published by UNCTAD, Spain is the world’s 9th largest host for FDI inflows in 2018 (17th in 2017). Spanish FDI has recovered in recent years due to an increase in competitiveness and investor confidence in the country. In 2018, FDI inflows amounted to USD 43 billion, representing an increase of 108% compared to the previous year. The increase is mainly due to foreign investors attracted by economic growth since 2014. The largest deal was the acquisition of the Spanish highway operator Albertis by Atlantia (Italy), ACS (Spain) and Hochtief (Germany) for $23 billion. FDI stocks increased by 2.1% from 2017 to 2018, to reach USD 659 billion (around 46.2% of GDP). According to data by FDI Intelligence, the country attracted 385 Greenfield FDI projects in 2017 (61 more than the year before) for a total of USD 13.9 billion, the highest level since 2008. These investments were directed mainly towards the manufacturing, automotive and tourism sectors. The Netherlands, Luxembourg, the United Kingdom, France, Germany, and Italy represent more than 70% of the FDI stock of Spain. Investments are mainly oriented towards manufacturing, financial and insurance services, energy supply, wholesale and retail trade, information and communication.

Spain ranked 30th out of 190 countries in the 2019 Doing Business report published by the World Bank. The country’s strengths include a restructured financial sector, the boom in tourism, its highly efficient transport network, its development of renewable energies and the cultural proximity to Latin America, with the presence of a number of Spanish multinational companies. Spain also aspires to become one of the world’s key research poles. On the other hand, the country has high levels of private and public debt, a very negative net external position and a high level of structural unemployment.

Can the European Union help with Spain’s economic problems? How?

In 2016, the taxpayers of Spain received from the European Union 8 euros per capita over what they contributed. Since its accession to the EU, the country has received from the European Union EUR 95.056 billion over what it has contributed.

Due to the uncertainty caused by Brexit, new EU foreign policy initiatives will be needed to compensate for losses in the Spanish export sector. The change in the ECB presidency can also affect Spain, as Mario Draghi’s recent policies protecting a strong euro may in the future shift towards more investment activity on the part of all countries.

What possible solutions can be offered for Spain’s structural problems?

According to the Bank of Spain, this country must launch a medium-term program to reduce the vulnerabilities of its public finances in order to be in a position to address future crises. Reducing fiscal imbalances should be compatible with an improvement in the quality of public finances, along with the combination of fiscal consolidation and other structural reforms. Indeed, improving the parameters that define the position of our public finances is particularly necessary, given the major challenges that population aging poses in the medium and long term. The latest estimates augur a significant increase in public spending on pensions, health, and long-term care as a result of the significant increase in the dependency ratio (measured as the percentage of over-65s relative to the working-age population). This ratio is expected to almost double in the coming decades, according to various demographic projections. In regard to the pension system, the 2011 and 2013 reforms included adjustments that would offset the systemic long term effect of the expected increase in total spending on the dependency ratio. The latest legislative developments in this area have, however, softened the implementation of these mechanisms. As a result, ensuring the financial sustainability of the public pension system will require additional measures to be introduced, on either the revenue or expenditure side, so as to offset this added burden. In any event, it is important to stress that facing the challenge of population ageing (which is not exclusive to Spain, but is proving particularly acute in our country) will call for the adoption of a multidisciplinary strategy to encourage the participation of elderly workers, to adapt migratory policy to the needs of the labor market and to boost the birth rate. Despite strong job creation during the recovery, the unemployment rate remains very high and raises the risk of it becoming structural if persistent (in particular among specific groups, such as the lesser skilled). In this respect, there is a disconnect between those employed and those unemployed. This calls for active employment policies to assist with the employability of different socio-demographic groups. This should be done by using the most effective and appropriate instruments. Furthermore, the percentage of temporary employees to total employees is above 27% and there is evidence of new temporary contracts being of even shorter duration; in addition to the social difficulties that generate, human capital accumulation is also impaired. Reducing the incidence of temporary employment would call for boosting the attractiveness of permanent hires.

Moreover, the Spanish economy has consistently posted very weak productivity figures in recent decades, and this has prevented real convergence with our European partners. Improving the dynamics of this variable is crucial for raising the economy’s potential growth in the long term, and the well-being of our citizens. That would require actions in various areas. In addition to the above-mentioned labor market reforms, human and technological capital improvements must also be made. In this respect, it is essential to improve the quality of the education system, adapting it to the challenges posed by globalization, technological progress and the automation of tasks. Moreover, the presence of high and persistent profit margins in some sectors suggests that there are benefits to lowering potential barriers to competition in those sectors. It would also be worthwhile to mitigate the effects of factors that prevent the growth of the most productive firms (mainly due to regulatory thresholds linked to size). Finally, despite progress made in recent years, the banking sector continues to face far-reaching challenges, largely shared with other European financial systems. Spanish banks must fiercely speed up the sale of their non-earning assets. These weigh down not only their profitability but also their capacity to allocate resources to those economic activities that most contribute to growth. In addition, the reduction in non-earning assets, originated before the European single supervisory and resolution mechanisms were established, may bring us closer to culminating a Banking Union. Such a Union would then allow us to address the need to pool macro-financial risks within the euro area and to strengthen its governance mechanisms. Especially a strong European financial system and single currency to be more resilient to future financial shocks. Secondly, banks should strengthen their capital and reduce liabilities to be more susceptible. Thirdly, the financial sector should strive in particular to enhance its reputation and to introduce measures mitigating the risk of misconduct. Fourthly, banks should address the challenge of increasing their profitability, although this cannot be at the expense of an undue easing of lending standards. Last but not least, while challenges arise from ongoing technological advances (in particular because of the emergence of new competitors and services), this constitutes an opportunity for Spanish banks to take advantage of Spain’s potential. Yet, it is essential in my opinion to harness the still-favorable cyclical juncture to create a budgetary margin ahead of future recessions and to introduce reforms to address the expansionary demand-side policies of recent years. In addition, in order to endow the Economic and Monetary Union with greater stability and soundness ahead of future shocks, it is necessary to continue enhancing its design and governance in regard to key aspects of the Banking Union and Capital Market Union, and the attendant implications for a future Fiscal Union.

To quote this article, please use the following reference:

Dr. Bélen Rey (2019). “Dr Belén Rey on Spain’s economic crisis”, Observatory on contemporary crises, December 4, 2019, URL: http://crisesobservatory.es/dr-belen-rey-on-spains-economic-crisis/