Spain’s Trade Tribulations

Spain’s export-driven economy has held up well despite slowing growth, but that could be about to change.

Along with the rest of the developed world, Spain’s economy is slowing down; but it is still doing better than the rest of Europe. Its growth rate is nearly double the average for the euro area. It is expected to remain largely untouched by the technical recession in neighboring Germany, the new phase of domestic political uncertainty in Spain that brought calls for yet another new election and the potential negative impact of Brexit.

“We are in the midst of deceleration, and Spain is also suffering from it; although it is showing resilience compared to the weakness of the euro area,” says Enric Fernández, CaixaBank chief economist in Barcelona, estimating 2% GDP growth for Spain compared to 1% for the euro area. “That is the result of strong domestic demand in Spain, especially related to investment in equipment and construction.”

Spain emerged strong from the recession sparked by the 2008 financial crisis. Reforms revived the competitiveness of its manufacturing industry. The financial system was also stabilized and modernized, eliminating many of the problems related to underperforming loans. As a consequence, in the past four years, the Spanish economy has grown at a pace ahead of the richer European countries.

“The Spanish economy has shown a remarkable dynamism since 2015,” Antonio Cortina, deputy director of Economic Research at Banco Santander, tells Global Finance. “This result is explained by its monetary policy, progress in the institutional framework of the eurozone, adjustment of balance sheets of the private sector and the foreign sector, and a number of structural reforms, including in the labor market and the banking sector.”

After hitting a post-financial crisis peak of 3.6% growth in 2015, Spain’s GDP growth has ticked downward, reaching just 2.6% last year. Different private forecasters see this year’s GDP expanding at around 2% with some further deceleration in 2020 to between 1.5% and 2%. “Spanish domestic factors are supportive of growth,” Fernández says. “The external environment is the main element right now conditioning the performance of the Spanish economy, at least over the next few quarters.”

Most recently, the export-fueled recovery that helped the country out of the financial crisis and brought a new wave of economic progress has shown some limits. Export growth seems to have leveled off, and uncertainties hanging on the global economy—trade disputes in particular—are creating doubts about the future of the Spanish economy. The slowdown in Germany and other large European countries is weakening global demand. “Mostly this is due to a new climate of uncertainty,” says Miguel Cardoso, chief economist for Spain at BBVA Research. “The savings rate is picking up in households and firms are investing less.”

With a passenger-car manufacturing industry that is the second largest in Europe, after Germany, Spain has been badly affected by weaker-than-normal demand for new cars. “The important contribution to economic growth that was coming from exports was halted,” says Cardoso. “A big factor is the auto industry, where demand is badly affected by the new EU regulations.” Car sales in Spain declined by 30% year-on-year in August in anticipation of September’s adoption of the Worldwide Harmonized Light-Duty Vehicles Test Procedure. Known by its acronym WLTP, it is a globally harmonized standard for determining the level of pollutants, CO2 emissions and the true fuel consumption of traditional and hybrid cars.

Other sectors will fare better. “There are industries that will do better than the rest of the economy,” says BBVA’s Cardoso. “We see that construction will do better for several reasons. After the big halt of the financial crisis, and given the record-low interest rates, real estate could grow well in the coming months—also because it is independent from external demand.” He expects construction will remain one of the country’s most vital industries.

Exports are also expected to remain healthy. “Despite the weak external environment, we still expect exports to grow around 2% this year,” says CaixaBank’s Fernández. “Those are the rewards for those companies who did their homework and who tried to find new markets in the past few years. We think exports could grow around 4%, and we are already seeing half of that.”

The impact of the trade wars and the other external elements is very difficult to assess. But how long Madrid can support strong internal demand is a big question that will depend on breaking the current political deadlock. After years of relatively stable governments, in the past four years Spain has not been able to express a solid majority at the polls. The country has been called to vote again this month (November 10) after the April elections did not deliver a parliamentary majority for Prime Minister Pedro Sanchez. His effort to form an alliance between his Socialist Party and anti-austerity group Unidas Podemos ultimately failed.

So far, the short-term impact of this political deadlock on the economy has been small but not insignificant. “The climate of political uncertainty has been present in Spain since the general election of 2015 has detracted on average between two and three decimal points from the yearly GDP growth,” explains BBVA’s Cardoso. “At first it might not seem a lot, but it adds up.”

Cardoso notes that those lost points of GDP represent “150,000 jobs that were not created.” Most recently, the yields on Portuguese bonds fell below the equivalent of Spanish bonds in a sign that investors favor Lisbon-issued bonds, likely due to the higher degree of political stability.

Fears about Catalonia’s desire to break away strongly came back in October with street protests sparked by the jailing of nine pro-independence politicians. The Catalán government held a referendum on independence in 2017 that was declared unconstitutional and null. So far the economic impact from these political tensions on the country’s richest region has not been relevant but this remains an unresolved issue.

Britain’s departure from the EU represents another potentially significant pain point for Spain in particular. “For Spain, a no-deal Brexit would be quite detrimental, because Spain has a lot of links to the United Kingdom,” says Angel Talavera, head of European economics at Oxford Economics in London. “The links are not so much in terms of direct trade, which is similar for all the European countries; but for Spain, there is a strong link to the tourism industry and also to the real estate sector, which in some areas is quite driven by foreign purchases.”

Despite the improvement in Spain’s economy in the past few years, it cannot stand isolated. Spains fate will remain linked to Europe. “I would underscore the risk of a protracted recession in the main euro-area economies. Germany will enter into a technical recession at the end of the third quarter; Italy is at risk of doing so,” Fernández concludes. “We in Spain rely on that recession being relatively short, and we expect this deceleration to bottom out by the end of 2019.” Nevertheless, he continues, “The risk is that this deceleration and recession would be more protracted; and that could be the result of Brexit dragging on, or trade tensions getting worse or an oil shock—anything that makes Spain’s main trading partners, which are the main EU countries including the UK, weaker. That’s the main risk for Spain.”