Economic and Financial Report March 2013

The Spanish economy: paving the way for recovery

The Spanish economy ended 2012 with an average contraction in GDP of 1.4 percent, compared with growth of 0.4 percent the previous year. This represents a relapse into the recession that followed in the wake of the 2008 crisis. The continuing contraction in domestic demand, of 4.7 percentage points, which was only partly offset by the 2.8 point contribution from the external sector, stands out in particular. The most negative aspect remains the severity of the job losses, with 850 thousand jobs being cut, taking the unemployment rate to an all-time high of 26 percent. Economic policy was centred on consolidation of the public accounts, cleaning up the financial sector, and restoring competitiveness. Progress has been made on all these fronts, particularly in the case of reducing the general government deficit (excluding financial aid to credit institutions) in the midst of a recession, the sharp drop in relative unit labour costs, the elimination of the current account deficit, and, in particular, the restructuring of the worst affected segment of the banking system.

Other key elements were the ECB's explicit commitment "to do whatever it takes to save the euro," and the European Council and Eurogroup's designing a strategy to achieve greater financial and fiscal integration, putting measures to boost competitiveness and growth on its agenda, and allowing more flexibility in the timetable for compliance with the budgetary targets, in view of the worsening economic downturn. This set of actions has restored a degree of confidence to the markets and has led, since the middle of last year, to a reduction in risk premiums, enabling public and private debt to be issued at more reasonable rates, thus avoiding a full bail-out.

In what remains a difficult context, the current year has therefore started under less adverse conditions than 2012 and looks like being the bridge year towards recovery. Recent forecasts by the European Commission point to a slowing of the rate of the drop in activity and employment in 2013, on a quarter-on-quarter basis, with a recovery starting in early 2014, and with cumulative growth of 1.6 percent over the year as a whole. However, the Spanish economy faces a number of contractionary forces of varying strengths, such as the consolidation of the public accounts in a context of low growth, cost containment (internal devaluation), and private-sector deleveraging. All these factors will tend to constrain aggregate demand, growth and job creation.

Nevertheless, there is ample room for manoeuvre in terms of economic policy to mitigate and shorten the effects of the adjustment. There is therefore an urgent need to complete the restructuring of the banking system which is already well underway, focus budgetary consolidation on rationalising spending and promote penetration of foreign markets by Spain's companies, particularly in emerging economies, where their presence remains scant and the growth potential is greatest. This all calls for a determined effort to extend and deepen structural reforms able to stimulate more intensive and efficient use of factors of production (i.e. more jobs and higher productivity, respectively), so as to boost Spain’s growth potential and lower the threshold above which the economy is able to start creating net employment.

In any event, Spain’s situation is closely bound up with the overcoming of the profound economic and institutional crisis affecting the euro area. Banking union, begun with the single supervision by the ECB, is a decisive step, but it needs to be complemented with the creation of new instruments and institutions (common deposit guarantee fund and single resolution mechanism) in order to avoid market fragmentation and ensure the uniform transmission of common monetary policy. This all means continuing to move forward in line with the agenda designed on the path to closer fiscal, economic and political integration. Finally, to overcome the crisis it is advisable to accompany adjustment policies for economies with imbalances with measures to stimulate growth in those with sufficient leeway available.

Madrid, 21 March 2013