The Crisis and Its Management

Spain:

I. The Road to Crisis

Spanish Economy Prior to 1999

5% of GDP and 14% of labor force

Agriculture:

(1996 est.)

11% of GDP and 9% of labor force(2010 est.)

Tourism:

Unemployment in Spain (1970 – 2005)

Spanish Economy Prior to 1999

Spain Joining EMU in 1999

Low Interest Rate

Long-term Mortgage

Loans

More investment, particularly in

construction & real estate

Any side effects?

The Golden Decade (1995-2007)

1995 2007

The Golden Decade (1995-2007)

II. The Crisis and Its Management

Industry Structure: Dependence on Construction Industry

Financial Crisis of 2008 – Why Spain? • Sub-prime credits not popular in Spain

• Bank of Spain required high reserve rates for major banks

Very Nature of Construction/Real Estate Industry

• Highly oriented to its own final demand-Very vulnerable to any fall in demand for houses

• Responds little to positive demand shocks to other sectors

Industry Structure: Dependence on Construction Industry

Five Possible Causes1. Recently joined advanced economy

2. Immigrants need home

3. Sociological change(# of people/household decreases)

4. Demand for 2nd houses in other EU nations

5. SPECULATION

Industry Structure: Further Complications

• Worsening current account deficit: Even before the burst• Imports > Exports: Trade account deficit

Labor Structure

Construction workers: Mostly on temporary contracts

Elastic demand for labor, easily laid off when demand falls

Jobs Directly/Indirectly Concerned with Construction Sector

USA Belgium UK Norway Sweden Spain

8.8 8.1 7.9 7.75.5

15.5

% (2000 est.)

Labor Structure

Employment in Construction Industry

From 2000 to 2004,

Total employment increased by 23.14%Employment in construction increased by 37.84%

1 in 5 new jobs created belongs to the construction industry

Labor Structure

2000 2004

While employment ↑, growth in labor productivity actually ↓

New jobs created: Low-skilled construction jobs

Labor Structure

Bubble bursts

In 2010:

Unemployment rate: 20%Youth unemployment rate: 41.6%

Unemployment rate: 21.3%Youth unemployment rate: 45%

In April 2010:

Labor Structure

ImmigrantsGolden Decade: Massive inflow of immigrants

Weight of Immigrants in Employment:

* 50% of new jobs were taken by immigrants

When the crisis happened, it was these immigrants who got fired first

Clip: "Crisis in Spain Hits Migrants"

1%(2000) to 14.8%(2008)

Government ManagementInitial Response

• Goal: Mitigate the crisis• Plan: Fiscal Stimulus 2008-2009• Scope:

– “Unprecendented in magnitude” (Socialist PM Za-patero)

– Represented 9% of GDP by 2009– Highest share in EU

Fiscal Stimulus2008-2009

•40bn euro•Measures under taken to offset recession and falling domestic demand

•6 billion Euros in tax cuts•Subsidies to create jobs•Unemployment assistance•Improved liquidity of banks & guaranteed debt issuance

Fiscal Stimulus2008-2009

• Consequence– Budget deficit increase from 4.2% in 2008 to 11% in – 2009– Public debt increased from 39.8% in 2008 to 60.1% in

2010• Fiscal stimulus exhausted by June 2009

– “Any chance of using fiscal policy to increase spending has now been exhausted”

– Governor of Spain’s central bank

Austerity Measures2010

• Goal: Reduce deficit to 6% of GDP in 2011 and 3% of GDP in 2013*

• Plan: Fiscal constraints• Major measures

– Wages– Taxes– Pensions

* Maastricht Treaty

Austerity Measures2011

Constitutional Amendment passed in September 2011

Promoted during European Summit (summer 2011)and fast tracked through Spanish Parliament

Followed German model of a constitutionally mandated balanced budget

Supported further austerity measuresand reassured investors concerned about the country’s debt

Required balanced budget at national and regional levelCapped public debt at 60% of GDP with exceptions for recessions & national emergenciesRequired the government to adhere to EU annual deficit levels of 3%

Austerity Measures2012 Reform Bill

Further budgetary cuts

Tougher oversight of central & regional public accounts

Targets for central & regional budgets:Debt to GDP ratio cut to 60%Deficit to 0 by 2020

Penalties for overspending in regional accounts

Banking ReformCajas

1. Regional savings & loans banks

2. Not publicly traded3. Controlled by regional

politicians4. Relatively unregulated5. Not required to

disclose loan information

1. Central government unaware of depth of cajas’ investment in real estate market

2. 2009– Owned 56% country’s

mortgages– Loans to developers

accounted for 1/5 of cajas’ assets

Banking ReformFund for Orderly Bank Restructuring

2009

Reform of Spanish Banking SystemPhase One: Consolidation in the savings bank sector (mergers)

June 2010

45 savings banks

March 2012

11 savings banks

Phase Two: Improve solvency

Raised core capital requirements to 8% of risk-weighted assets and to10% for banks that heavily rely on wholesale markets or where private investment is less than 20%

Phase Three: Clean up balance sheets

Prompted entities to dispose of non core assets and required additionalcapital requirements for certain types of property exposures

Labor Reform

Labor Market Reform20102012

Spain experienced the sharpest rise in unemployment

Unemployment was amplified by the structural problems in the labor market

Duality of the workforceRestrictive collective bargaining system

Labor Reform2010

Expanded the conditions under which employee dismissals are justified for economic reasons

Permanent contracts with reduced severance pay for 33 instead of 45 days

Use of temporary contracts more restrictive

Wage Guarantee FundEstablishment of a worker’s capital fund where employers pay into it at regular intervals instead of paying severance

at dismissal

Labor Reform2012

Simplified reasons and process for carrying out collective dismissals

Compensation for unfair dismissal was reduced

Official authorization to temporarily suspend worker’s contracts no longer required

Net affectAllows firms to more easily and cheaply dismiss redundant employees

III. What’s Next?

In Search of a New Model

Long-term Commitments• New Industries (Competitive Exports)• More Investments in Education • More R&D

Short-term Constraints

• Budget Reform (Austerity measures) - Debt/deficit management

Dilemma Exists

Proposed Solution

• Balancing long-term and short term concerns

• Usage of economic strengths of Spain to survive through austerity measures - Internalization of small-medium sized firms - Promoting tourism industry

Aim for Long-Term Improvement of the Economy Goal: Sustainable Long-Term Growth

Works Cited