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Spain is the perfect example of a country that never should have joined the euro zone

Greece fiddled the books and we, in Ireland, broke the rules recklessly. In company with the tipsy club-med countries, we nearly sunk the euro.

Our bankers hurtled us into skid row, but we added to the mess by managing our public finances like drunken sailors.

Ditto the other PIGS countries. We all took our more sober European colleagues for granted. For several years, I have listened to Leinster House spinners whispering that Germany would see us right.

So how can we blame Angela M, the paragon of Germanic sobriety, for seeking a vigilante role?

So far, she is not demanding control or even total abstinence, but is putting pressure on the wayward nations to reduce their intake of the hard stuff. Otherwise, Angela and her equally unamused sister nations could head for the hills or seek expulsions.

Ireland’s recent record merits a period of probation.

-Shane Ross: No wonder Merkel’s angry, Sunday Irish Independent

This is the kind of self-reflection now going on in Ireland, the poster child for newfound fiscal austerity in Euroland. And while I applaud the sentiments regarding fiscal probity, the analysis of economic history is flawed. Yes, Greece fiddled its books and ran a deficit in good times and bad.  But, it is rubbish to paint all of the debtor nations in Euroland now in crisis with the same brush. There are huge differences I would like to point out. And I will use Spain as the poster child for what is wrong with Euroland.

For the record, I think Ireland’s fiscal record merits probation too. However, it is their bankrupt and outsized banking sector which Shane Ross correctly points to as the problem.

The pain in Spain

As for Spain, here are some numbers you might find illuminating [note: many of the linked articles in the section below are in Spanish].

Spain has a staggering number of unemployed. The unemployment rate is twenty percent, a figure that rises to twenty-seven percent in Andalucía. That’s 4.6 million people out of work. Almost 1.3 million households have every single member out of work. Andalucía is the worst affected region where six of its eight provinces are among the top ten worst unemployment rates in all of Spain.

Expect all of these figures to rise – especially due to recently-announced budget cuts. Some have been predicting this since last summer (see UBS: ‘The disaster in Spain will continue’ from July 2009).

The fact that Spain is contributing to the Euro bailout package which was $1 trillion at announcement gives you a sense of the unsustainability of the current political economy in Euroland.

Nevertheless, if you look back to the previous decade, things were looking much better due to the property boom. In particular, the government’s finances were stellar.

spain-government-budget

Notice how the government’s budget is in surplus throughout most of the 2000s. Moreover, if you look at a list of countries in the world and rank them according to public debt as a percentage of GDP for 2009, Spain is well down the list (#44). In fact, it is much lower than Germany (#18) on the list. Below are the most recent figures for the crisis-ridden countries and Germany. Once again, notice how Spain has the lowest debt to GDP ratio, even after a remarkable deterioration in its fiscal position over the last two years.

cabrals-european-debt-table1b

I would also add that Germany’s fiscal record is significantly worse than Spain’s over the last decade. Take a look at Germany’s fiscal record below.

 

germany-government-budget

In short, it is total nonsense for people to act like Spain’s government has been reckless and irresponsible in managing it’s finances. The numbers tell a completely different story.

If you pointed to Portugal, Greece or Italy, you might have a point.

 

portugal-government-budget

 

greece-government-budget

 

italy-government-budget

But Spain had been a paragon of fiscal virtue. We are witnessing historical revisionism due to the unprecedented downturn in that country.

What happened?

 

The Euro happened – and that has been a decidedly mixed blessing. I have been pointing this out for two years on this blog.

I am a Euroscpetic. I admire the political will of Europe’s grand designers in creating the Euro, but I have always felt that harmonisation would be a painful process fraught with tension – especially during economic downturns. And so it is today.

As the Euro celebrates its tenth anniversary, the pains that Eurosceptics like myself feared are fully evident in the differing monetary regimes available to the three European bubble economies of the UK, Ireland and Spain. Ireland and Spain were never at the core of Europe and never hoped to be the driving engine for interest rate policy in the Eurozone. Yet, they both joined the Eurozone because their politicians believed the benefits of integration outweighed the economic costs. Ultimately, they believed that harmonisation would eventually bring their economies into line with the core of Europe, France, Germany, Benelux, and Italy.

-The case against the Euro, June 2008

The harmonisation never came to pass. Instead what we got was an unbalanced Euroland in which Germany and the Netherlands exported and Spain, Portugal and Greece imported, running up enormous current account imbalances in the process.  Take a look at the capital account figures in the financial sector balances from this FT chart.

financial-sector-balances-eu

These imbalances are a direct result of a monetary policy that was geared to slow-growth core Europe. The result was an enormous property bubble in Spain and Ireland in particular.  It’s not as if a robust regulatory environment could have overridden these forces either; the Banco de España, Spain’s central bank, is widely credited as having run one of the more solid regulatory regimes in Euroland.  Yet, this did not stop a runaway property bubble from forming and imploding.

Moreover, what these two charts also point out is that, in Spain and Ireland, enormous property busts turned what were fairly large government budget surpluses in 2006 – the largest in the euro zone except for Finland -  into an enormous government budget deficit by 2009. The Netherlands is the only other country besides these three that had a surplus in the euro zone in 2006.  I have shown you the other crisis country’s budget numbers and Germany’s over the decade. So here are Ireland’s.

ireland-government-budget

Surpluses for every single year to 2006.  It is inaccurate to say "we [Irish] added to the mess by managing our public finances like drunken sailors" as Shane Ross has done. The numbers do not support this in the least. But this is the sort of self-flagellation you hear in the Irish press all the time.  Two years ago, I wrote a post "Ireland: the bust after the boom" which chronicled some of this.  What I found most prescient, however, were my ending paragraphs:

And with the fall in house prices in Ireland, the pride in its ‘Tiger Economy’ has turned to anger as jobs are lost and Ireland slips into recession. This anger is a large part of the ‘no’ vote on the Lisbon Treaty. It also stems from the fact that people were under the illusion that the good times were going to last forever. And now that its gone a bit pear shaped, people are in disbelief.

In the end, all of this will pass. Ireland will go through its own lost decade much as Japan and Germany did after their own property bubbles in the 1980s and 1990s. However, the underlying dynamism of the Irish economy will help to pull Ireland out of its funk sooner than either Japan or Germany with their statist-lite economic paradigms.

What would be a cause for concern is if Ireland began to intervene in the unwind process, propping up zombie companies and bailing out the financial sector. The U.S. seems on this road as we speak. Hopefully, Ireland will not follow its example. If the calls for government to do something, anything, lead to a statist model of dealing with the bust, expect a very long and difficult decade.

As we have learned, Ireland did follow America’s example. In fact, everyone has followed the all-bailout-all-the-time example.  I will have more to say about this and what it means for Europe and the global economy in an upcoming post.

Update: This post is now written. See “The mindset will not change;a depressionary relapse may be coming – European version.”

Sources

National Economic Statistics – TradingEconomics

The PIGS’ external debt problem – VoxEU

About 

Edward Harrison is the founder of Credit Writedowns and a former career diplomat, investment banker and technology executive with over twenty years of business experience. He is also a regular economic and financial commentator on BBC World News, CNBC Television, Business News Network, CBC, Fox Television and RT Television. He speaks six languages and reads another five, skills he uses to provide a more global perspective. Edward holds an MBA in Finance from Columbia University and a BA in Economics from Dartmouth College. Edward also writes a premium financial newsletter. Sign up here for a free trial.

3 Comments

  1. DoctoRx says:

    Nice work, Ed
    IMO it’s time, and past time, to get off the fence and cease supporting Keynesianism money-printing in the short term. That approach hasn’t worked. Let all the banks go bust if need be, protecting insured depositors. Let all bondholders in banks be forced into debt-to-equity swaps. Who cares? But the US Govt
    must have strong finances, or all is lost.

    • Long time no hear DoctoRx. I wouldn’t go so far as to say let all the banks go bust because that would ensure a depression of course. But in Ireland, they are really in a pickle because of the size of the banking sector and the property boom and bust. It is going to be tough sledding for sure.

      As for money printing, I DO have some pro-money printing things to say about Spain later. If they really cared about national solvency, this would be the only exit path in a double dip recession frankly. They have the same problem with regard to private sector debt because of the property sector. And unless they get some growth, this debt will be an albatross that makes things considerably worse – with all the attendant social unrest that entails.

      One or two posts more coming on this theme.