Spending cuts versus tax hikes:
The details of Spain’s crisis budget, released on Thursday, is in many ways a final attempt for the sovereign to take control of its public finances before assistance from the European Central Bank becomes paramount.
However, markets have already cast their judgement: Spain’s 10-year bond yield hovered above 6% on Friday, amid solvency fears and ahead of a make-or-break audit on the domestic banking system.
The budget highlighted the government’s aim of keeping the country on track to meet its target for the general government deficit – a decline to 4.5% GDP from 6.3% in 2012. It aims to do this largely from a reduction in government spending rather than tax hikes.
Some of the key measures include: a reduction in overall government spending by 8.9%; tax rebates for large companies will be limited; a new 20% tax on lottery wins will be introduced; public sector salaries will be frozen for a third consecutive year; a new tax on short-term capital gains will be introduced; as will new levies on energy.
Will it work? Euromoney pieces together the views of economists across three European financial institutions.
“The government has based its budget on rather optimistic projections for the Spanish economy. It expects GDP to contract by merely 0.5% in 2013, while we think a much sharper decline is more likely – our current estimate is -1.9%. Consequently, it seems very likely that the government will miss its deficit target next year, unless it implements further austerity measures.
“At the same time, European Commission vice-president [Olli] Rehn, specifically welcomed the announcement by the Spanish government that it will establish an independent fiscal council that will monitor the country’s regional governments and make sure they comply with Madrid’s efforts to control spending. This is an important step in breaking the political ties between the central and regional governments, and should limit budgetary slippage by regional governments.”
“In April, the Spanish fiscal plan was judged by the government to require an underlying fiscal tightening worth 4.5% of GDP this year, and 2.2% of GDP next year. Given the way in which the details of the 2013 budget have been presented, it is not easy to update this (equivalent numbers to these have not been shown).
“Some portion of the measures announced for 2013 reflects greater detail on the tightening that was already planned. But given the downward revisions to the government’s growth forecast since April, our best guess is the underlying fiscal tightening planned for next year will now have moved up to just over 3% of GDP.
“As the data for 2012 already suggest, there are questions about whether the planned tightening will in fact be fully implemented, so we suspect in practice the tightening will be somewhat less than this.”
Euromoney Country Risk:
“Spain can soldier on without a full sovereign bailout for the time being. With its two-year borrowing cost at an affordable 3.3%, and 83% of this year’s debt issuance already successfully completed, there is no urgency to accept a new bailout.
“If short-term borrowing costs stay low, Spain might not need additional help. We estimate that further recapitalizations in the banking system will amount to €125 billion. In addition, €25 billion would be sufficient to plug the holes in the troubled autonomous region’s finance, bearing in mind total debt is only 14% of Spain’s GDP.”
“Spain can soldier on without a for the time being. With its two-year borrowing cost at an affordable 3.3%, and 83% of this year’s debt issuance already successfully completed, there is no urgency to accept a new bailout.
However, the sovereign’s position on ECR’s rankings has plummeted 19 places since September 2010 to 56 in 2012, leaving it placed behind South Africa and the Bahamas.
The sovereign’s economic assessment of 36.5 ranks among the second-lowest of the peripheral economies. High unemployment and negative GNP outlook account for the greatest threat to Spain’s risk profile.