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Global Trends and Politics

Key election in Spain overshadowed by British referendum

All eyes in Europe are fixed on London. New polls on the Brexit referendum on 23 June reach us on an almost daily basis. Some of them show the Brexit camp in front, others say that the Remain side is slightly ahead. For the United Kingdom to leave the European Union would be a major rupture. Alongside all the polls, many studies are also being published that indicate the enormous economic and political consequences that Brexit could have for Europe and for the United Kingdom.

14.06.2016

But the Brexit referendum has overshadowed new Parliamentary elections in Spain, set to take place three days later. Six months after the Spanish general election last December, no political party has yet managed to form a government. Far less attention is being paid in Europe to the Spanish elections than to the Brexit referendum. Perhaps this is because the candidates are less colourful than in the British duel between Prime Minister David Cameron and Boris Johnson, the charismatic talisman of the Leave campaign. But the outcome of the Spanish elections could be just as important for Europe and the future of monetary union.

The European sovereign debt crisis has spawned a seemingly recurring pattern: if a country fails to reform, the economy remains in crisis. But if a government tries to persuade the electorate to accept painful cuts, it faces breakdown or being voted out of office. Greece has already experienced this – and Prime Minister Alexis Tsipras is currently trying to prevent a repeat. Portugal seemed to be on the right path, until the socialist Antonio Costa made an electoral alliance with neo-Marxist groups in order to gain power and declare an end to austerity. His predecessor paid for the introduction of some partly successful reforms with a crushing defeat at the ballot box.

Spain's economy is now much more dynamic than it has been for a long time, with growth of more than 3% over the past year. And the growth forecast of 2.7% for 2016 is more than one percentage point higher than in the USA or Germany. Of course, Spain is benefiting from low oil prices, low interest rates and the weak euro.  Unemployment of just over 20% is still unbearably high, and half of all young people cannot find a job. But there is progress. During its period in office, the Rajoy government has cut the deficit by half, reformed the banking sector, and has started to transform the labour market. Unemployment rates have indeed fallen by six percentage points over the past three years. Spain also has a trade surplus of almost €30bn.

But the economic upswing is accompanied by political chaos. The country has not had a new cabinet since the Parliamentary elections at the end of 2015, and stands at a crossroads. Perhaps either the conservative PP or the social democrats PSOE will receive enough votes from the electorate to continue with reforms. Then Spain could develop into a role model for the southern European crisis states, and demonstrate to everyone in Europe that painful reforms need not necessarily mean defeat at the ballot box.

But if Spain votes as the polls predict on 26 June, there will still be no clear winner, and the uncertainty will remain. It is also possible that the left-wing populist party Podemos might come to power. Either of these latter possibilities might just be acknowledged with a shrug by the rest of Europe if, three days before, the United Kingdom returns a vote in favour of staying in Europe. But brushing this off would be wrong, because Spain is by no means on safe ground yet. Public finances still need further reform, with the deficit running at almost 100% of GDP. It was only out of fear of anti-European protest votes that the European Commission held back from escalating the current deficit procedure, despite Spain running a deficit of over 5%. And that even though Prime Minister Mariano Rajoy had promised tax reductions as a form of election incentive.

If the crisis in Spain gets worse, Madrid should not rely on too much support from the rest of Europe. Nationalistic opposition parties are exerting pressure on governments in almost all countries, and they are just waiting for economic failure in a big country like Spain to demonstrate that the European project is finally falling apart. The European Central Bank would again provide the last line of defence. This would be a long way from any ideal of a stable Europe, even if we are spared the scenario of a simultaneous Brexit.

Munich Re Experts
Michael Menhart
Chief Economist at Munich Re
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