"La Caixa" Bank
Spain Economic Report - October 1996
Spain's economy is one of those enjoying the highest growth in the EU although the figure is below the modest level of 2%. According to the National Institute of Statistics, Spain's gross domestic product (GDP) for the second quarter grew by 1.9% in annual terms, one decimal less than in the three preceding months. This confirms the practical stabilization of the economic growth rate in the first half-year following the earlier slowdown. Both private consumption and capital goods investment showed a significant increase, still moderate in the former case but much stronger in the latter. On the other hand, investment in construction increased its decline thus reflecting a slightly negative change rate. Overall, the smaller growth of domestic demand was compensated by the positive contribution of the foreign sector based on the strong drive in exports.
Agriculture and fishing were the only sectors to show increased growth rates thanks to the improvement in weather conditions. This did not happen in industry or construction both of which recorded negative change rates. Services, both private and public, each recorded a clearly downward profile in keeping with the general tone in recent months. With regard to indicators for the third quarter of 1996, Spain's economy for the rest of the year should maintain a similar rhythm to that in the first half-year with no sign yet of an appreciable jump toward higher growth levels. Altogether, the slowdown in industry may have touched bottom at the end of the first half-year while in construction the situation also seems to have improved somewhat. Finally, in services nearly all indicators continue to show positive change rates with the favourable results in tourism being noteworthy.
In the labour market an improvement in employment may be noted in keeping with the figure for those contributing to Social Security which in August showed an annual increase of 1.7% and in total job placements which exceeded d 5.5 million persons up to that month. In line with all this unemployment continues to decrease although the unemployment rate, according to the labour force survey, still holds at above 22%. In addition, the traditional imbalances in Spain's economy (inflation, foreign deficit and public deficit) are tending to improve. Inflation in August, in spite of holding at 3.7% annual (a better than expected figure following the rise in special taxes), continues at a level three percentage points above the average of the three best-placed countries in the EU. While the progress achieved is not to be sneezed at it is still not sufficient given that the countries in Spain's orbit are maintaining a sharp trend to slower growth in prices.
The trade deficit measured by figures from the Customs Branch decreased by 6.1% in the first seven months of the year compared with the same period last year because of the drag effect of goods exports which up to July rose by 9.3% in real terms, that is discounting the effect of price increases. In real terms, imports were up at a low rate (growth of 8.1%) although in July a rise could already be noted which indicates greater strength of domestic demand. Tourism also represented a substantial contribution to the balancing of foreign accounts. With regard to the public deficit, cumulative Treasury figures up to August indicate a reduction in the deficit of 9.0% compared with the same period last year.
The situation in financial markets in September was clearly positive with markets decidedly betting on a drop in interest rates. The reason was the prospect of a sufficiently restrictive government budget, lower than expected inflation in August and the government's backing of the European Monetary Union. Finally, interest rates have improved their convergence with European rates with the increased possibility that Spain would move into the single currency. These developments have at the same time favoured Spain's currency which has strengthened and moved up to close to 84 pesetas to the D-mark while holding first place in the exchange rate mechanism of the European Monetary System. In these circumstances yields on interbank deposits (a reference rate for financial markets) dropped to all-time lows for terms of 3 months to one year going below 7% whereas at the end of 1995 yields were running around 9%. This trend was made possible by the conviction in the markets that there would be an early cut in the official interest rate of more than a half-point. At the same time, the yield on 1-year Treasury bills for the first time went to below 7%, a drop of 1.8 points compared with the end of 1995.
The collapse of government bond yields was also spectacular. The yield on 3-year bonds thus stood at around 7% (a new all-time low) as against 9.2% at the end of last year. For 10-year bonds the yield went below 8% at the end of September whereas in December 1995 yields came to exceed 10%. As a result, the differential with German long-term bonds narrowed to a low of 1.8 points in the case of 10-year bonds. This figure reflects the improved confidence in the reduction of imbalances in Spain's economy and future developments in this respect will depend on their effective correction.
Bank interest rates stand at low levels. Decreases are contributing to an increase in credit to companies and households which could be a boost to stronger drive in economic activity. This positive climate has also given a push to the stock market helped along by highs on the New York stock exchange. As a result, stock market indices have sharply moved up although they are still below the highs at the beginning of July.
As a counterpoint to the decreases in interest rates up to this moment the Bank of Spain has not modified its reference rate which has been maintained at 7.25% since June. Not even the cut in the German central bank intervention rate on August 22 altered the position of Spain's central bank. The cautious position of the central bank may be explained by uncertainty still persisting with regard to the performance in the public deficit and the inflation effect of wage increases and a rise in indirect taxes. As a result, it appears that the central bank is waiting until presentation of the 1997 government budget which should ensure the meeting of the criteria of putting the public deficit at 3% of the GDP as a maximum and thus qualify for moving into the single currency according to that laid down in the Treaty on European Union.
The basic features of the government budget for next year, presented finally at the end of September, show a deficit of close to 2,000 billion pesetas, a figure which represents 2.5% of the GDP (the remaining deficit up to 3% of the GDP is for Social Security and regional and local levels of government which are not included in the central government budget). According to early information available, spending will rise by 1.7%, well below the increase in nominal GDP (5.6%). Budgetary containment will be possible thanks to a freeze on salaries and workforce in the public service, the cut in public investment and transfers to public companies and lower spending on unemployment benefits. In turn, revenues will be up close to 6% thanks to a rise in existing indirect taxes and the creation of new taxes, also indirect.
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CHRONOLOGICAL SUMMARY 1996
- January 1 Royal Decree Law 12/1995 dated December 28, 1995 on urgent measures of a budgetary, taxation and financial nature (BOE 30-12-95) which prorogued the 1995 government budget in the absence of an approved 1996 budget.
- January 12 Bank of Spain cuts 10-day auction rate from 9% to 8.75%.
- January 17 Law to Regulate Retail Trade (Law 7/1996 dated January 15, 1996) and complementary Fundamental Law 2/1996 of same date published in <<Boletín Oficial del Estado>>.
- January 31 The Federal Open Market Committee of U.S. Federal Reserve lowers discount rate and Federal Funds rate by a quarter-point to 5.0% and 5.25% respectively.
- March 3 General elections to Spanish parliament.
- March 13 Bank of Spain reduces 10-day auction rate from 8.75% to 8.25%.
- March 27 Peseta shows annual high against deutschemark with Bank of Spain fixing at 84.04 pesetas to the deutschemark, highest appreciation against German currency since December 16, 1994.
- April 3 Bank of Spain reduces interest rate at 10-day auction of certificates for third time this year from 8.25% to 7.75%.
- April 18 Bundesbank, Germany's central bank, lowers official interest rates. Discount rate goes from 3% to 2.50% and Lombard rate from 5% to 4.50%.
- April 26 Peseta reaches exchange rate of 82.864 pesetas to the deutschemark (Bank of Spain fixing), the highest figure for Spain's currency since October 10, 1994. IBEX-35 index for Spanish stock exchanges reaches all-time high closing at 4,124.31.
- May 4 José M(a) Aznar named Spain's Prime Minister.
- May 7 Bank of Spain reduces 10-day auction rate for certificates
from 7.75% to 7.50%, the fourth interest rate cut this
year.
- May 28 IBEX-35 index for Spain's stock exchanges hits all-time high closing at 4,166.86.
- June 3 Government announces cut of 200 billion pesetas
in public spending spread over various Ministries.
- June 4 Bank of Spain drops 10-day auction rate for fifth
time this year from 7.50% to 7.25%, an all-time low.
- June 8 Official government bulletin (BOE) publishes Royal
Decrees 5, 6, 7 and 8/1996 on economic liberalization
and fiscal measures.
- June 28 Government announces privatization programme for
public companies.
- July 1 IBEX-35 index for Spanish stock exchanges reaches all-time high closing at 4,278.31.
- July 31 Coming into force of Royal Decree 12/1996, dated
July 26, providing for special credits to meet obligations
from previous years and regularize advances of funds
and increasing special taxes on tobacco and alcohol
(BOE 30-7-96).
- August 22 Bundesbank, Germany's central bank, lowers interest rates on repos to 3.00% from earlier 3.3% maintained since February.
- September 27 Spanish government approves bill for 1997 budget.
Reproduced courtesy of "La Caixa" Bank
"La Caixa" publish the English language Spanish Economy Monthly Report. It is available in Adobe Acrobat (C) format from http://lacaixa.datalab.es/inf_an.html
