One step forward and two steps backwards?

Economics can often provide solutions to problems while the study of politics can be about why the solutions are not always easy to implement.  This could be seen as a bias interpretation but the changes in the fate of Spain over the past month could possibility be an example.

The interest rates on Spanish government debt tumbled at the beginning of September following the announcement of plans by the European Central Bank (ECB) to buy an unlimited amount of bonds of indebted countries in Europe (refer to “Whatever it takes”).  This should have been the beginning of the end of the debt crisis in Europe.  But the mood turned sour as Spain once again hit the front pages of the papers as politicians in Madrid and in the region of Catalonia positioned themselves amidst the changing political landscape.  As a result, the Spanish government is having to fight to stay in the Eurozone as well as trying to hold the country together. 

The ECB made a bold stand in its willingness to stand behind countries like Spain who suffer from excessively high interest rates as a result of concerns over a possible breakup of the Eurozone.  If the ECB makes good on its pledge to do “whatever it takes” to save the euro, investors have less to worry about and renewed buying of Spanish bonds should help bring down the interest rates on the government debt.  But in practice, the best laid plans do not always work out.

The backing of the ECB required countries to submit to supervision from the EU and the IMF which makes the help offered by the ECB less attractive.  Losing control of their own affairs is a fate that those in power do not welcome and the Spanish government is holding off on asking for help from the ECB.  But the daunting nature of the economic problems in Spain suggests that help from outside is inevitable.  Real GDP in Spain is expected to shrink by 1.5% in 2012 and 0.7% in 2013 according to the IMF while the government debt continues to increase.  The Spanish government is expecting to borrow 207.2 billion euros in 2013 which is more than its plans for 186 billion euros in new debt in 2012.  An examination of Spanish banks this week suggests that a further 60 billion euros are needed to stabilize the banking sector and some of these funds may have to come from the government.

However, help from the ECB may be on the way as the Spanish government is making moves in the right direction and is in the process of implementing many of the policies that would be required of it if the country needed assistance from the ECB.  This may be crucial as the Spanish prime minister Mariano Rajoy has remained firm in his stance that he will not accept conditions being imposed from outside.  Yet, if the prescribed policies had already been put in place, the outside help need not require any further harsh measures.  But the policies of austerity have resulted in protests in Spain so the government is treading a fine line and the possibility of turmoil is never far away but at least efforts towards a solution are in the process of being made. 

The political difficulties of cutting government spending and raising taxes would be more than enough to deal with.  But the tough measures taken by the government have triggered another crisis – the perennial issue of secession in Spain.  Catalonia which is centred on Barcelona is both the wealthiest region in Spain as well as the region which has the most debt.  Its prosperity means that Catalonia provides more tax revenue to the central government in Madrid than it receives in government spending.  But, at the same time, the regional government in Catalonia has had to ask Madrid for just over 5 billion euros as investors will no longer lend the region any money.  This contraction has been jumped on by politicians in Catalonia who want to push for independence for the region and a snap election for the regional government in Catalonia has been called for November which is being seen as a proxy referendum on the possibility of secession.   A crisis is always a good opportunity for politicians to push for change even if it adds to the mayhem.

But such is politics.  Politicians must keep voters happy to stay in their jobs while others will take their opportunity to grab for power.  But this is not always conducive to action.  It is no coincidence that the ECB has been able to make bold policy shifts while governments in the various countries in Europe (including Germany) have been squabbling on the sidelines.  The messy politics in democracies can get in the way of doing what is required.  If only economists ruled the world!