Rajoy Hasn't Fixed Flaws That Made Spain's Economy So Dangerous

  • Spain's productivity has fallen since it joined the euro
  • Total debt level almost as high as on the eve of the crisis

Mariano Rajoy is telling Spaniards they’ll put the economic recovery at risk if he’s pushed out in next week’s election. His critics say the prime minister’s own policies have left the country exposed.

Flaws in the labor market, failures in education and barriers to competition are hurting Spain’s ability to get over the debt legacy of its six-year slump, according to Angel Laborda, chief economist at Madrid-based Funcas, the savings bank foundation. At the same time, a flood of cheap money created by the European Central Bank is increasing the temptation of a consumer-fueled expansion that could generate fresh financial bubbles.

Mariano Rajoy
Mariano Rajoy
Photographer: Pau Barrena/Bloomberg

“Spain is like a car that was repaired to get it back on the road after a crash,” Laborda said. “But little has been done on the structural side to increase the power of the engine or to make the car safer to drive.”

While Rajoy has stabilized the budget and got the economy growing again since taking office in 2011, he hasn’t tackled many of the deeper problems that ailed Spain in the run-up to the crisis. With the government’s debt pile almost three times higher than it was in 2007, the country is still exposed to market disruptions that could push it back into crisis.

Guindos Concerned

The increase in public borrowing under Rajoy has been almost as large as the reduction in private debt, leaving the country’s total liabilities at 2.7 trillion euros ($3 trillion). Even Economy Minister Luis de Guindos has highlighted the danger.

“The Spanish economy is vulnerable,” de Guindos said in an October speech. “The private sector debt leverage is high, while the public debt ratio is close to 100 percent.”

Spain’s public debt rose by 10 billion euros in the third quarter to 1.06 trillion euros, the national central bank said Friday. As a share of output, it was unchanged at 99.3 percent from the previous three months.

While the economy is now growing at about twice the pace of the euro area, productivity is still being held back by more than 2.5 million long-term unemployed who don’t have the skills to compete in the global economy, according to the European Commission. To make matters worse, the education system has the highest dropout rate in the European Union. Almost a quarter of those aged between 18 and 24 have failed to complete high school, leaving them little prospect of finding well-paid work.

As the state struggles to upgrade Spain’s human capital, companies are easing off on their efforts to improve their machinery and equipment as construction spending stirs again and record-low interest rates fuel a splurge in consumption.

Almunia’s Nightmares

Growth in fixed capital investment slowed to 1.1 percent in the third quarter from 2.4 percent in the second, while retail sales in October posted the biggest expansion for that month on record. Investment in construction grew 0.6 percent.

“I wake up at night with the fear that we might repeat the kind of growth that brought us to this crisis,” Joaquin Almunia, the former European Commissioner for Economic Affairs said in an October speech. “We have to change the economic model.” Almunia was the leader of Spain’s Socialist opposition from 1997 to 2000 before joining the Commission.

To be sure, Spanish banks are lending at close to the lowest rates on record after Rajoy’s EU-sponsored re-fit of the financial system, and exports have increased their contribution to the economy. At a third of output, that’s now the most in the euro area after Germany, while public spending cuts have helped push down prices, making Spain more competitive against euro-area rivals.

“In the last two years, 2014 and 2015, a million Spaniards have found work and the challenge for the next two years is to create 500,000 jobs a year,” Rajoy said in an interview last week with the broadcaster Telecinco. “I’m going to spend all the money I can on tackling unemployment.”

While Rajoy says it’s his efforts to cut the cost of hiring and firing, tame the deficit and fix the banks that have turned the economy around, the international environment has helped a lot too. The ECB’s quantitative-easing program allows Spanish lenders to finance themselves at negative interest rates and the collapse in the price of oil has left more cash in consumers’ pockets.

Spain gets more of a boost from changes in monetary policy than other euro-area economies growing more slowly because most mortgages track market rates, according to Goldman Sachs Group Inc.

Cut-Price Growth

Should those tailwinds disappear, the limitations of Rajoy’s strategy may be exposed.

The government has focused on driving down costs for Spanish companies, and wages in particular, but has done little to increase access to the middle-class lifestyle to which most voters now aspire. The vast majority of the new jobs created under Rajoy have been on temporary contracts that give workers no security to set up homes or start families and employers few incentives to develop their skills. As a result, some 2.2 million of the country’s 18 million workers earn less than 60 percent of the average wage, and even the average income is among the lowest in western Europe.

To raise living standards over the long term, Spain needs to make its workers more productive, not cheaper, and that means more investment in education and training, according to Miguel Cardoso, chief Spain economist at Banco Bilbao Vizcaya Argentaria SA in Madrid. With so many long-term unemployed, Spain should be spending twice as much on retraining, he said. Unless those workers can be recycled, Spain may start facing labor shortages -- and inflationary pressures -- when the jobless rate falls below 18 percent.

Instead, the resurgence of consumer spending suggests Spain may be reverting to its “old, domestic-driven growth model,” Morgan Stanley economist Daniele Antonucci said last month. “This may put in danger the structural transformation towards a new, export-led growth model.”

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