A tale of two Budgets in Spain

The steep deficit cut in Spain over the last year is being hailed by the government as a landmark achievement. The more so as deep-rooted recession exerted an unbearable pressure on public income. In terms of GDP, the scaling down came closer to 3% as tax hikes amounting to 1% simply filled the gap of less than foreseen receipts. An outstanding result by all means.

But a closer look at the figures shows that fiscal consolidation has performed a shorter than expected headway. Most expenditure cuts were implemented on a one-off basis, leaving no room for future adjustments. Take for instance the decision to skim off the public employees’ Christmas pay, a move you can hardly repeat in future. Furthermore, pension and unemployment benefits that make up the bulk of central government spending rose while social security income plunged.

The most effective cuts were delivered by sheer lack of money as regional and local authorities faced a disruptive lock-out in the credit market. There is no better medicine for a spendthrift than taking away his wallet.

The lack of steam in future will be coupled by temporary tax increases due to end up or be diluted rather soon. The most striking example is the withholding proceedings on corporate tax, representing half of the fiscal drag enforced last year. They fed the Treasury over that period, but final payments in 2013 will inevitably fall. Forestalling a U-turn in the near future, the European Commission is pressing Madrid to consolidate these tax increases and perform a further twist in VAT and other taxes. It also presses for urgent cuts in social spending.

Thus the biggest ever effort undertaken in public finances is considered as short-lived. An unexpected setback when you bet on receiving widespread praise for the formidable feats accomplished. But was deficit trimming as outstanding as government claims? There are good reasons for casting a doubtful view on it. While the current balance only recorded a 6.7% hole, debt rose by 10% due to bank rescue liabilities. And at the end of the day, what matters is the amount you owe.

Prospects point to Spain reaching the 100% debt barrier in less than two years, a most worrying scenario as the economy is plummeting. It may take as long as 10 years to bring down liabilities to a tenable level. In other words, austerity and primary surpluses are on the menu in the foreseeable future. Spain is bound to face a most unpalatable prospect. The tale of two Budgets fails to embody the happy end trumpeted by government.