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The Pain in Spain

As its economy goes down the drain

Apr 5, 2010, Vol. 15, No. 28 • By CHRISTOPHER CALDWELL
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Unfortunately, it may not be cushion enough. Spain had another problem: the entanglement of its political system with its banking system. This is not just a story of modern interlocking directorates. A system of “cajas” accounts for more than half of Spain’s financial system. There are now about 45 cajas, and they are often compared to savings-and-loans or credit unions, but they are better described as semi-public, semi-private foundations. Cajas date to the 19th century, but there is a tradition of church-based lending organizations that goes back even before that. Cajas pay no dividends but use about 30 percent of their earnings for projects that serve the common good. It is a very noble-sounding enterprise, and that is partly why Spaniards put their money in cajas. They might work as advertised if a church were in charge of them, but Spain’s constitution of 1978 gave the regional governments a voice in how the cajas were run, which, in effect, made them the policy instrument of whatever political party was in power. 

Mostly the cajas were managed responsibly, but, given their link to political parties, they had to keep in mind that loan applicants were often voters, too. What is more, the idea of what constituted the common good broadened. Cajas had traditionally shared their wealth with social programs, health providers, and art institutions. But, for instance, when a plan to build a Warner Brothers theme park outside Madrid—very much desired by the region’s politicians—did not find funding, the Madrid caja took 25 percent of the shares in it. That investment worked. Others didn’t. The government of Castilla/La Mancha—the same one that approved the empty housing in Seseña—prevailed upon the local caja to build an airport in Ciudad Real that nobody needed. The caja went bankrupt. It is the only one to have done so thus far, but another dozen are on the verge. The caja system controls such a huge amount of Spain’s financial activity that they are unlikely to fail systemically, but they are going to need to be consolidated, and the government reckons that this will cost $120 billion. Moody’s threatened to lower Spain’s sovereign credit ratings if caja mergers don’t push ahead.

One reason local savings banks affect the nation’s credit is that the cajas lend to government, too. The distribution of political power and budgeting authority in Spain is so complex that Spanish political scientists have a hard time understanding it. In simple terms, much budget authority is in the hands of local ayuntamientos (town halls) and autonomias (regions, which have a lot of the prerogatives of states in the early American republic). So about 20 percent of the national debt is not even under the government’s control. The autonomous communities (Catalonia, the Basque Country, Madrid, etc.) will probably be able to make the billions in cuts they need to bring their deficits back down to 3 percent before 2013, as the European Union has urged. But the ayuntamientos, since they are financed mostly by building permits and property taxes, are under water. Very much as in Ireland, when the building boom stops, governments stop with it. One ayuntamiento, Ochandurí, in Rioja, has debt of $13,000 for every man, woman, and child in the town.

More Spanish than others

This conflict between central and regional government is what shapes Spanish politics now, and Spanish politics makes budget balance hard to sustain. Zapatero has built his electoral coalition on the loyalties of the autonomous communities, particularly Catalonia, Andalusia, and the Basque country, where distrust of the overarching Spanish state is strong—as is nationalism. He infuriated the conservative Popular party when he described the Spanish state as “a concept that is open for discussion.” The conservatives, in turn, are apt to blame Spain’s present deficits on the alleged waste, fraud, and abuse of autonomous communities and the other minority interests that Zapatero woos. Gays, feminists, Basques, and atheists are no less Spanish than their fellow citizens, conservatives say. But they are not more Spanish either. 

It is hard to translate the politics of the autonomous communities into American terms. In some places, such as Andalusia, it resembles U.S. minority politics. State handouts account for a significant proportion of the region’s income—about 25 percent, according to some estimates. Zapatero, who faces critical regional elections there next year, can keep his forces together provided he can offer enough state money. On a trip to Andalusia in mid-March, he did just that. 

In Catalonia, however, where his Socialists have scraped together a coalition with nationalist parties of the left, the politics is more like the U.S. politics of states’ rights. A substantial proportion of the Catalans, who make up one-fifth of the population but account for about a third of the country’s economic activity, want more autonomy. They feel the left-wing nationalists who made a coalition with Zapatero have done a poor job of securing it. Catalans have an allergy to the Spanish conservatives that dates from the Civil War of the 1930s and will not vote for them in the next election. They appear likely to restore to power Convergència i Unió, the relatively free-market party of the nationalist right, which is the region’s natural majority.

The politics of labor reform

The toughest nut to crack for Zapatero will be reforming the Spanish labor market, which went wrong in the Franco era (1939-75) and has proved impossible to fix. It will be tough to crack because he doesn’t want to crack it. Spain’s labor market has much to do with the present dangers to Spain’s economy, and no attempt to get Spain out of its fiscal hole will be convincing without a reform of it. 

Franco’s corporatist model offered low-wage jobs for life. Spanish workers were keen on the “for life” part of this bargain, less so on the “low wage” part. During the transition to democracy, unions were legalized and added to the mix. While the level of unionization in Spain has never been high, unions are seen as the custodians of the will of the free working class. Any victory by the country’s General Workers’ Union quickly gets translated into policy across the entire labor market. 

The benefits and protections would be thought generous even by French or German standards. Unemployment compensation lasts up to two years. It initially pays 70 percent of final salary, which falls over time, but only to about 60 percent, and in the present climate of high joblessness, there is great pressure to extend these benefits. If a worker has a permanent contract, you cannot fire him without cause, unless you are willing to pay 45 days’ worth of salary for every year worked. If you claim to have cause, you need to go to court to prove it—a drawn-out, expensive, and probably futile process during which you still have to pay the worker his salary. The unions consider these arrangements derechos adquiridos (acquired rights), almost a kind of property. Any suggestion that they are negotiable is considered an insult. “It used to be machines were fixed, capital and labor was variable,” one former government economist (a Socialist) told me. “But now it has changed. A machine you can throw out, a worker you’re stuck with.”

Since this level of worker benefits was hobbling the economy even in the 1980s, a new kind of temporary contract was introduced. The attempt to institute it resulted in a general strike. Spain’s unions called general strikes in 1988, 1992, 1994, and 2004 when labor reforms were proposed, and in each case they threatened to make the country ungovernable. 

The idea of temporary contracts was that workers could be hired and fired at will, but after three years of good performance they had to be offered full-time, permanent contracts. What resulted, as anyone but a politician could have predicted, was a strange dual labor market that leaves Spain with both the most pampered and the most exploited workers in Europe. The arrangement has a crippling effect on productivity. Older workers are inefficient because they are too secure. Younger workers, who tend to be much better credentialed than the older ones, can work hard for peanuts and then be put out on the street after two years and 364 days. Career-wise, they tend to spin their wheels for three or six years at just the time of life when people are willing to take risks, move, start companies. Unsurprisingly, no company wants permanent workers. What they want is people who will take low-wage jobs. In practice, the dual labor market has been a recruiting call for immigrants, and it has encouraged the sort of low-tech work that immigrants do—roofing, dishwashing, landscaping—instead of investment in productivity. During the boom, 85 percent of contracts were temporary, and no more than a tenth were ever converted to permanent contracts. Now the rate of conversion is even lower.

Getting out of this mess will take some political courage. Any serious labor reform will probably, in the short term, drive the unemployment rate upward from the 19 percent where it stands now. Zapatero is an instinctual leftist with a Manichean view of the Spanish Civil War. As such, he fears nothing more than a general strike. General strikes are things that only happen to fascist dictators and other enemies of the working class. It has surely not been lost on Zapatero that Greece has had three of them since it started trying to put its financial house in order this winter. In February, after Zapatero suggested in remarks at the World Economic Forum in Davos that he would favor raising Spain’s retirement age from 65 to 67, the unions went into the streets, and a general strike was the implicit threat. 

Over the falls

This makes the probability that the government will tackle Spain’s labor arrangements—at the heart of the problem—very low. It means that piecemeal measures are the order of the day. The government has introduced a Value-Added Tax hike (from 16 to 18 percent) that conservatives have promised to oppose, it has scrapped its plan to modernize the army, it has announced that it will phase out the mortgage-interest deduction starting next year. It has passed something called the Law on the Sustainable Economy, which will incentivize high-tech start-ups over real estate start-ups, as if a million empty housing units were not incentive enough.

Like many Western governments—like the United States, in fact—Spain has a clear path to recovery provided the economy grows at utterly implausible rates. The secretary of state for the economy now gives presentations to investors in London and Paris professing that Spain is “determined to act” to reduce its deficit. But this is very much like American noises on the deficit: lots of declarations of will and idealism and very little concrete description of how to get there. Olli Rehn, the monetary commissioner of the European Union, has described the Spanish promise to cut the deficit to 3 percent of GDP in 2013 as wishful thinking. Standard & Poor’s lowered its rating of the Bank of Spain’s debt from Group 2 to Group 3 (which includes the United States). 

The Spanish debt crisis can be looked at in a lot of different ways. You can see the housing bubble, the labor market, the division of governmental labor between Madrid and the autonomous communities, or the lack of political will as the main cause. There are so many budget-cutting measures you may possibly have to take that a good case can be made for shutting down almost any aspect of the welfare state. The whole kit and kaboodle may be nearing the point of unsustainability. The system of state guarantees and welfare rights that Spain has erected may be the biggest bubble of them all. In that case, the wisest course for a politician may be to stay in the boat, hope you are wrong that you are going over the falls, and wait and see what you really have to do to survive.

Christopher Caldwell is a senior editor at The Weekly Standard and the author of Reflections on the Revolution in Europe.

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