Spanish Elections May Expose Wider Deficits, Test Bond Yields

Spanish elections next month may expose wider-than-reported regional deficits as local governments take power, risking higher bond yields and testing the country's ability to withstand Europe's debt crisis.

Finance Minister Elena Salgado, who is spearheading the nation’s efforts to stave off turmoil, agreed to seven deficit-cutting plans with local finance chiefs late yesterday and left six pending until after May 22 elections for 13 regions and 8,000 municipalities. Catalonia, Spain’s largest region, revealed a budget shortfall 60 percent wider than previously acknowledged after its government won an election in November.

“There is no reason to think Catalonia is a special case,” said Fernando Fernandez, a former International Monetary Fund economist who teaches at Madrid’s IE business school. “I’ve no doubt the same thing is going to happen, even in regions that don’t change party.”

Salgado said yesterday she’s “not worried at all” that Spain’s efforts to stave off the crisis could be threatened by regions whose debt burden together with that of municipalities swelled to 14 percent of gross domestic product last year. While regional governments have regained access to capital markets shut to them last year, investors are demanding yields similar to those paid by Portugal before it sought European aid.

Bond Prices

Bond prices show Spain has set itself apart from the euro region’s most indebted economies, European Union Commissioner for Economic and Monetary Affairs Olli Rehn said yesterday. The extra yield on Spanish debt compared with German equivalents has narrowed 37 basis points since the start of the year, and traded at 212 basis points today. The spread touched a three-month high on April 19 on concerns a Greek default would fuel contagion through Europe’s periphery.

Salgado yesterday agreed with regional finance chiefs to tighten budget targets. They will aim for a combined deficit of 1 percent of GDP in 2014, down from 1.3 percent this year and next and 1.1 percent in 2013.

“The autonomous regions are on the path toward bringing their deficits into line with what we have agreed,” she told reporters. “I’m not worried at all.”

Spain’s 17 semiautonomous regions, which spend 60 percent of budgets on health and education and employ half of all public workers, are struggling to plug shortfalls after a collapse in revenue linked to real estate. During the property boom, regions raised health spending by at least 8 percent a year, according to Fitch Ratings analyst Guilhem Costes.

Municipal Shortfall

Town hall revenues are also suffering. Their construction-related income such as building permits may be 16 billion euros ($23 billion) for 2010, less than half the total at the height of the property boom in 2007, said Jose Antonio Perez, a professor at Malaga’s Instituto de Practica Empresarial.

That has prompted late payments for some suppliers. Aranjuez, a town outside Madrid, owes gardening company JJ Villagran 116,000 euros in unpaid bills, owner Jose Juan Villagran, 41, said in a telephone interview. After a protest in the town square, the mayor agreed to pay him, Villagran and a town spokesman said. The Platform Against Late Payment, a pressure group, estimates municipalities owe 33 billion euros in unpaid bills.

“All of this will come to the surface after elections,” said Fernandez, a former chief economist at Banco Santander SA.

In Catalonia, the previous government said on Nov. 24, four days before that region’s elections, that it would meet the shortfall target of 2.4 percent of GDP, a number the new government revised to 3.9 percent after taking office in December. The regional government says it can’t meet this year’s 1.3 percent target and won’t increase spending cuts beyond the 10 percent already planned.

Spending Cuts

Authorities facing elections this year may also postpone spending cuts, said Angel de la Fuente, an economist at the National Research Council’s Institute of Economic Analysis. That may undermine their ability to raise funds just as regions including Valencia and Catalonia regain access to debt markets after being locked out last year.

Spain’s 17 regions have a total 115 billion euros in debt, with regional public companies owing another 17 billion euros, according to Bank of Spain data. Local administrations owe 35 billion euros.

“If governments delay consolidations because of elections, that means more negative news,” said Amey Dyckmans, a sub-sovereign analyst at Unicredit SpA in Munich. “That’s obviously not a good sign for capital markets.”

De la Fuente said it would be a “suicidal” for governments to allow deficits to swell during the election campaign as investors grow concerned about euro-region governments’ ability pay debts.

Restoring Confidence

In an attempt to restore confidence, Zapatero’s government forced regions to publish deficit data every quarter and stopped indebted town halls from borrowing. The central government has to approve regions’ debt issuance, giving it indirect control of budgets.

That didn’t stop the government saying as late as Nov. 24 that Catalonia could issue new debt as the region would meet its budget goal.

“Catalonia simply did not stick to the plan and that is a problem,” said Lorenzo Pareja, a ratings analyst at Standard & Poor’s. “The other regions could imitate the case. It’s hard to predict.”

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