The New Year in the Euro zone has opened in rather an odd manner. Firstly its politician’s gave a very downbeat message for 2012 with Chancellor Merkel of Germany saying this.
next year will no doubt be more difficult than 2011
This was odd in itself as of course they have told us so many times that they have solved Europe’s problems! The mainstream media missed that point. Perhaps it was some form of Freudian slip by Chancellor Merkel. However markets completely ignored them and if we look at the German Dax equity index rose by 3% yesterday and have risen by 1% so far today. One could speculate that financial markets have got so used to political dissembling that they have assumed things are more optimistic! Or simply that they no longer take any notice.
Spain is in trouble
For some time I have been writing that the trajectory of the Spanish economy is poor and the outlook weak and over the New Year period and even today we have received new information on this front.
The Budget or Fiscal Deficit
The previous Spanish government told us that it was on target to hit a fiscal deficit of 6% of Gross Domestic Product in 2011. However a spokeswoman for the new Spanish government Soraya Saenz de Santamaria told us late last week that the deficit would now be 8%. This has become a rather familiar trend after elections in the Euro zone and according to El Pais this has continued this morning as Spanish Interior Minister Jorge Fernandez Diaz has said it will be 8.2%.
This has become such a repeating trend I am thinking of defining austerity as being defined in Europe as an increase in fiscal deficits rather than a reduction for my new lexicon of terms in economics.
The usual response: more planned cuts and higher taxes
The government now plans a 14.9 billion Euro austerity package which combines some 8.9 billion Euros of spending cuts with 6 billion of tax rises ( income tax, capital-gains tax, and property tax). The tax increases will be “temporary” in what is another entry for my lexicon ( for newer readers official uses of the word temporary usually explain something which turns out to be anything but).
If we assume that the plan above is actually enacted we see moves which will reduce Spain’s fiscal deficit by 1% of GDP. This leaves her with a problem as she is supposed to hit a fiscal deficit level of 4.4% of GDP this year and 3% in 2013. So if we start at 8.2% and subtract 1% we get a long way short of 4.4% which means that Spain will have to turn the austerity screw a lot harder if she is to get anywhere near these targets.
The problem here is something I have reported on many times. Spanish regional governments have a higher share of total public spending than is usual elsewhere and they have failed to cut spending as promised. This is often missed by statistics headlines which only report central government numbers.
However if we move onto the Spanish economy we will see as I demonstrate below that there are real dangers of a substantial slowdown which will only exacerbate the fiscal deficit problem. Indeed we are in danger,in my view, of the vicious circle of missed targets,spending cuts and tax rises, and then a shrinking economy leading to more misssed targets and repeat. In other words what has happened to Greece and looks like is happening in Portugal.
This is a central problem with the latest labour market survey showing a rise of 0.6% to 21.52% or 4,978,300. Even worse employment fell too by 148,000 to compound a picture of high and rising unemployment.
Here is another central problem with Spain’s housing boom having turned to dust with its implications for her banking sector. INE her statistics agency has reported this.
The value of the mortgages constituted on urban properties stood at 4,213 million euros in October, indicating an interannual decrease of 40.2%. In dwellings, the capital loaned exceeded 2,355 million euros, 46.5% less.
Apologies for their English (although far better than my Spanish) but the meaning is clear. If we look back to a year ago the market was already in distress so numbers some 40%+ lower tell a grim story. Indeed mortgage rates had risen to an average of 4.33% which was around 0.6% higher than the year before. Interestingly this happened before the European Central bank raised interest rates in 2011 and we will have to wait and see what happens now after it reversed course and cut them at the end of the year.
The number of mortgages had fallen by 36.9% on a year earlier.
What is happening now in Spain’s economy?
We can see from the report above that the two central problems in the Spanish economy were worsening in 2011 but the data is lagged and behind the times.
This is also behind the times but also looks weak.
The interannual variation of the Industrial Production Index for the month of October is –4.2%, almost three points below that registered in September……..By economic destination of the goods, all sectors present negative interannual rates.
So worrying too and that is before we consider a seasonally adjusted index of 83.9 against a base level of 100 for 2005.
These numbers are more up to date.
Sales in retail trade at constant prices (that is, after eliminating the prices effect) registered an interannual variation of –7.2% in November 2011, indicating a one tenth decrease, as compared with the rate from October.
All of the distribution classes presented a decrease in sales in November, as compared with the same month last year.
So we now see numbers for November which also illustrate a very weak trend and they reinforce a problem for Spain which is that in 2011 internal demand fell but external demand rose and to some extent compensated. For example her national accounts for the third quarter of 2011 showed internal demand falling by 1.2% but external demand (exports less imports) rising by 2%. However if you look at Spain’s trading partners we see that she will do exceptionally well to increase exports in 2012 and her internal demand looks like it is still falling. She could easily see falling external demand and find this added to by falling internal demand.
The latest data: Purchasing Managers Index for Manufacturing
These were released yesterday and reinforced the trends discussed above.
The seasonally adjusted Markit Purchasing Managers’ Index® (PMI®) – a composite indicator designed to measure the performance of the manufacturing economy – posted 43.7 in December, little-changed from the reading of 43.8 in the previous month and continuing to point to a strong deterioration in operating conditions in the sector.
These numbers are on a scale where a number below 50 indicates a contraction, and of the European countries surveyed Spain was the only one to show a fall, or if you look at her numbers I should perhaps say a further fall. And I am afraid that the detail of the report if anything reinforced the severity of the problem.
New business fell for the eighth consecutive month in December, and at a considerable pace that was slightly faster than that seen in November. Respondents reported falling demand from both domestic and foreign markets.
And particularly worrying considering her already high levels of unemployment.
Employment decreased again in December as firms adapted their workforces to lower demand.
There are real dangers that the Spanish economy could not only go into recession in 2012 but that the decline could be severe. Care is needed as the latter part of the year could improve and the future is always uncertain but she is suffering badly right now. Unfortunately the countries which have applied the Euro zone austerity mantra have all so far the got worse which is hardly auspicious is it?
The official definition for recession of two quarters of negative GDP growth is always slow to tell us a country has gone into recession but unofficially there can be little doubt that Spain is in one right now and the danger if recent history is any guide is of it worsening towards a depression.
Why arent Spain’s government bond yields any higher?
I have described recently the operations undertaken by the European Central Bank which have benefitted Spain’s government bond market in particular. A link to that is below.
However there are other factors to consider right now. Firstly government bond markets often do rise into an economic slowdown as a fixed income stream looks more attractive at such times and if you take the ten-year yield of 5.1% some may quite reasonably see that as attractive. Also if you compare that with the UK gilt equivalent of 2% yield you get 3% more from Spain when not so long ago they were similar. So “spread traders” may be involved too.
Personally I feel that such conventional analysis is likely to have to face up to a much weaker Spanish economy in 2012 and if we see the sadly by now familiar “vicious circle” of austerity that a yield of 5.1% suddenly does not seem that much when real solvency issues emerge.