BBVA Research: 2012 recession not escalating, while reforms underway, although requiring intensification, should pave the way for faster growth
BBVA Research’s latest estimates confirm the recession in Spain, pointing to a GDP contraction of 1.3% this year. However, economic indicators are revealing a less dramatic than estimated deterioration in the real economy.
- (1888PressRelease) May 10, 2012 - The data presented in its ‘Spain Economic Outlook’ report, published today, show that the measures adopted lend credibility to the ability to meet current fiscal deficit targets. BBVA’s economic research department has flagged the positive effect of the program set in motion by the state government to enable supplier payments by cash-strapped regional and local governments as it will entail a liquidity injection that will boost economic activity.
The outlook for 2012 is still for a GDP contraction of 1.3%, in an environment marked by intense prevailing uncertainty due to the lingering European sovereign debt crisis. The economists attribute the increase in Spanish bond prices to the higher than forecast deviation with respect to the stated public deficit target for 2011, coupled with the failure to introduce transparent mechanisms to guarantee delivery of the 2012 deficit target at the regional government level. However, current forecasts point to a recovery, albeit moderate, in GDP from 2013: estimated growth of around 0.6%.
In Spain, economic policy uncertainty is said to have diminished in the wake of the introduction of measures that lend credibility to the ability to deliver the fiscal deficit targets, implementation of ambitious labor market reforms and the new financial sector reform measures announced.
The advent of this double-dip recession has been triggered by various external factors. On the one hand, capital market and European sovereign debt volatility have made it more expensive for the Spanish economy to raise medium and long-term funding. Also, the outlook for contraction of the broader European economy will dampen growth in demand for Spain’s exports. Meanwhile, the upward spiral in oil prices has interrupted the downtrend in inflation.
BBVA Research’s ‘Spain Economic Outlook’ report also confirms the estimate for a reduction in household spending in the first quarter of 2012 of around 0.6% year-on-year, despite the anticipated decline in savings. Investment in capital goods, meanwhile, will register a moderate decline with respect to the last quarter of 2011. Corporate investing activity is, however, expected to begin to recover in 2013, underpinned by gains in competitiveness on the part of exporters and stronger foreign demand. Elsewhere, BBVA Research reiterates estimates for a further 6.6% slump in investment in the residential market in 2012; current estimates point to a recovery, albeit very gradual, starting towards the end of 2013.
Firming exports
As for exports, current estimates point to a stronger performance quarter-over-quarter, albeit masking a highly uneven performance. Both exports of goods through customs and of goods and services by large companies staged a recovery in January, only to contract once again in February. However manufacturing exports and tourism recovered throughout the first quarter. Imports of goods and services, meanwhile, continued to contract during the first months of the year, driven by slumping internal demand. Nevertheless, external demand will have made a positive contribution to GDP in the first quarter of 2012.
BBVA’s economic research department indicates that the deterioration in unemployment between January and March, concentrated among temporary wage earners and service sector workers, to 24.4% of the active population, confirms the recessionary nature of the Spanish economy in the first quarter.
Labor reform: making the economy more competitive
BBVA Research makes a positive assessment of the labor reform introduced by the government which it notes marks significant progress with respect to the old framework, essentially by increasing internal job market flexibility in Spain. The reduction in redundancy costs is designed to drive a reduction in the existing gap between the cost of terminating employees on indefinite contracts and those under temporary contracts. Also, the prioritization of company-level collective bargaining agreements over higher-level agreements will make it easier for companies to adapt to the evolving economic environment and should stimulate a correction in the intensive margin (work hours) and remuneration rather than in the extensive margin (employment).
Moreover, the labor reform facilitates the modification of employment terms and changes the regulatory framework governing temp agencies, authorizing them to act as placement agencies with a view to reducing the time spent collecting unemployment benefits and to enhance the quality of job-employee matches. It further renders employment contracts for training/learning purposes more flexible (extending the age and maximum length) and introduces tax breaks for entering into these kinds of contracts and for converting them to indefinite employment arrangements.
BBVA’s economic research department took all these measures under consideration in estimating the impact that labor reform will have on the Spanish economy, concluding that its impact could be particularly positive, making way for the creation of 10% (approximately two million) more jobs long-term compared to the no-reform scenario.
Despite the measures taken, the recessionary outlook means that the labor market will continue to deteriorate throughout 2012 and the first half of 2013, driving an increase in the unemployment rate, which is estimated to peak at around 25%, despite the forecast decline in the active population.
Impact of the supplier payment program
The supplier payment program set in motion by the Spanish government at the end of February is a mechanism designed to settle the past-due sums payable to suppliers by regional and local governments as of year-end 2011. By launching this program, the state administration has sought to start to put the regional and local finances in order: the list of payables and debt owed by local government entities is estimated at 0.9% of GDP, while the preliminary estimate for the regional governments points to supplier debts equivalent to 1.6% of GDP.
The report published by BBVA Research calculates the impact of this program on the Spanish economy by modeling the propensity of the program beneficiaries to spend the amounts collected. Although this program will give the current holders of the regional and local government debts more liquidity, the knock-on effect on the real economy could take longer to trickle through due to prevailing stress in the financial markets.
BBVA’s economic research department estimates the program’s impact on the Spanish economy by making assumptions regarding the percentage of receivables already discounted in the financial system and the extent of the liquidity crunch. The results of this analysis show that the higher the percentage of receivables already securitized, the lower the likely impact on the economy, and the higher the propensity to spend, the higher the potential positive impact on GDP. The highest-probability scenario points to a 0.7% impact on GDP in 2012. However, the scale of prevailing uncertainty suggests that a lower impact cannot be ruled out.
Unprecedented spending cuts
BBVA Research claims that the government has some room for maneuver in terms of cutting the public deficit and that the measures taken lend visibility to the ability to deliver the deficit targets set. Approval of the new budget stability act and the launch of the supplier payment program give the central government greater control over the regional governments’ accounts. In addition, the announced privatization program (the details of which have yet to be disclosed), coupled with the adoption of structural reforms, could generate additional income that would mitigate the financial market pressure bearing down on Spanish debt.
The raft of measures announced is said to make delivery of the central government’s deficit stability target for 2012 credible: their scale should be sufficient to reduce the deficit to 3.5% of GDP and to partially offset the anticipated economic downturn. However, the risk of missing Spain’s overall fiscal deficit target (at all government levels) remains concentrated at the regional government level: these administrations must take action in addition to the measures already announced if they are to achieve the required cuts.
BBVA’s economic research department highlights that the scale of the fiscal adjustment in 2012 is virtually unprecedented among the developed economies, particularly considering that fact that it is being embarked upon in a recessionary environment. The structural deficit that would be achieved if the administration delivers its stability target for 2012 would be a little over 2% of GDP. If it were to meet its deficit target of 3% of GDP in 2013, BBVA estimates that the administration would have managed to bring the structural deficit to around the targeted 0% of GDP, bringing forward delivery of the target enshrined in the new budget stability act and the Treaty on Stability, Coordination and Governance by a full seven years.
Outlook for 2013
According to BBVA Research, the outlook for 2013 is more promising. The European economy should stage a timid recovery, while the euro should continue to depreciate. Financial tensions should wane and spending cuts should prove less onerous thanks to the measures adopted in 2012. Also, oil prices are expected to fall slightly.
These factors should combine to put the Spanish economy back on the growth track, albeit with internal demand remaining weak. At the regional level, the economies presenting higher international exposure and those that can afford less stringent spending cuts are likely to post somewhat more vigorous growth.
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