European CommissionDirectorate-General for Economic and Financial AffairsMacroeconomic Imbalances –Spain 2013EUROPEAN ECONOMY Occasional Papers 134
ACKNOWLEDGEMENTSiiThis report was prepared in the Directorate General for Economic and Financial Affairs under thedirection of Servaas Deroose, deputy director-general, Jürgen Kröger and Anne Bucher, directors.The main contributors were Jürgen Kröger, Javier Jareño Morago, Bozhil Kostov, Magdalena MorgeseBorys, Massimo Suardi, Jakub Wtorek, and Norbert Wunner. Other contributors were Carlos CuerpoCaballero and Peter Pontuch. Statistical assistance was provided by Michel Gerday.Comments on the report would be gratefully received and should be sent, by mail or e-mail to:Massimo SuardiEuropean Commission,Unit F4CHAR 15/138B-1049 Brussels.e-mail: Massimo.Suardi@ec.europa.euThe cut-off date for this report was 20 March 2013.
3Results of in-depth reviews under Regulation (EU) No 1176/2011 on the prevention and correction ofmacroeconomic imbalancesSPAIN is experiencing excessive macroeconomic imbalances. Although adjustment is taking place, themagnitude of the necessary correction requires continuous strong policy action. In particular, very highdomestic and external debt levels continue to pose risks for growth and financial stability. The decisive policyaction at the EU level and by Spain has resulted in a visible adjustment of flows, reduction in financing costs anda reduction of immediate risks.However, developments over the last year, including further contraction in economic activity, soaringunemployment, and the need for public support for the recapitalisation of a number of banks, have exposed thevulnerabilities represented by those imbalances for growth, employment, public finances and financial stability.More specifically, Spain has been affected by large and closely interconnected external and internal imbalances.Strong capital inflows during the boom years contributed to the accumulation of large net external liabilities andspurred a large housing and construction bubble. After this bubble burst, the exposure of the banking sector todoubtful real estate and construction assets endangered financial stability. These risks to the banking sector arebeing effectively addressed through the financial sector assistance programme and the recapitalisation andrestructuring of the most affected banks and the strengthening of the regulatory and supervisory framework (1).The adjustment of external imbalances is on-going but not completed yet, as Spain needs to move towards apersistent current account surplus to reduce its stock of net external liabilities: currently part of the improvementin the current account balance and cost competitiveness may be driven by cyclical factors. The adjustment ofprivate sector balance-sheets is advancing, but will continue to pose a challenge for economic growth and thefiscal outlook over the medium term. The housing market has not stabilised yet. Rigidities in product and labourmarkets contribute to high and rising unemployment, and more generally hinder the adjustment of the economy.All in all, vulnerabilities to possible real and financial shocks remain elevated, and with them the possibility ofnegative spill overs on the rest of the euro area. These challenges require continued action in the areas of productand service markets, labour market, financial sector, and public finances.In addition, significant revenue shortfalls linked to the rebalancing of the economy, higher social expenditureand costs of bank recapitalisation have led to a substantial pressure of government deficits and a steeply risinggovernment debt. A sustainable correction of the excessive budget deficit in the medium-term requiressimultaneous progress on correcting macroeconomic imbalances, supported by further structural reforms to boostgrowth and employment creation and to reduce structural rigidities that hamper the adjustment.Excerpt of country-specific findings on Spain, COM(2013) 199 final, 10.4.2013.(1) See the Commission, services reports on the financial assistance programme to recapitalise financial institutions in Spain, EuropeanEconomy-Occasional Papers, 118, 121, 126 and 130.
5Executive Summary and Conclusions 91. Introduction 132. Macroeconomic Situation and Potential Imbalances 152.1. Macroeconomic scene setter 152.2. Adjustment of internal and external imbalances 162.2.1. Current account and external debt 172.2.2. Export performance and competitiveness 182.2.3. Housing market 202.2.4. Deleveraging by households and non-financial corporations 212.2.5. Public debt 222.2.6. Labour market 233. In-Depth Analysis of Selected Topics 253.1. Private sector deleveraging 253.1.1. Introduction 253.1.2. Households 263.1.3. Non-financial corporations 293.1.4. Conclusion 323.2. External debt sustainability and current account adjustment 323.2.1. The net international investment position 333.2.2. External debt sustainability 353.2.3. Progress in the adjustment of the external deficit 3188.8.131.52. Assessing the cyclical/non-cyclical nature of trade balance adjustment 3184.108.40.206. The role of exports in the adjustment of the external trade balance 3220.127.116.11. The role of imports in the adjustment of the external trade balance 413.2.4. Conclusions 424. Policy Challenges 45References 48LIST OF GRAPHS2.1. Real GDP growth and contributions 152.2a. Net lending/borrowing by sector 172.2b. Net lending/borrowing by component 17
62.3a. Productivity and wages 192.3b. REER (ULC in manufacturing) vis-à-vis EA16 and IC35 192.3c. Decomposition of developments in ULCs* 192.3d. Decomposition of developments in the REER (ULC-based)* 192.4a. Dynamics of housing and mortgage markets imbalances 212.4b. House prices, mortgages and residential investment 212.5. Evolution of domestic credit 212.6a. Unemployment by age group 242.6b. Change in the number of employees by contract duration 243.1a. Debt sustainability, Households (HH) 263.1b. Debt sustainability, Non-financial corporations (NFC) 263.2a. Household indebtedness indicators 263.2b. Decomposition of rate of change of household debt 263.3a. Household indebtedness, EU 27 countries, 2010 273.3b. Household notional leverage 273.4a. Sectoral decomposition of credit flows 283.4b. MFI lending to households 283.5a. Financial position of households 283.5b. Households total wealth 283.6. NFC leverage indicators 293.7. NFC indebtedness and financial burden 293.8a. Breakdown of NFC bank debt by sector (3Q 2012) 303.8b. Evolution of share of doubtful loans in total loans by non-financial corporate sectors 303.9a. Decomposition of change in ratio of NFC debt to GDP 313.9b. Change in selected ratios from income accounts, NFC 313.10. Rate of change of credit to NFC 323.11. Sectoral breakdown of NIIP 333.12. Decomposition of rate of change of NIIP 333.13a.Asset breakdown of NIIP 343.13b.Quarterly variation in BdEs assets against Eurosystem 343.14. Maturity composition of external debt 343.15. External debt by issuer 343.16. Evolution of forecasts of current account balance 353.17a.Energy imports, volumes, 12-month moving average 363.17b.Goods trade balance: energy and non-energy component 363.18a.Trade, income and capital account balances 363.18b.Compositions of income balance 363.19a.Saving and investment rates 383.19b.Total exports and imports (current prices) 383.20a.Exports of goods and services, y-o-y growth (12-month moving average) 393.20b.Exports of goods by destination, contribution to y-o-y growth 393.21a.Decomposition of import growth (Q1 2008-Q2 2012) 42
73.21b.Domestic demand and exports 42LIST OF BOXES3.1. Firm size and export potential 40
EXECUTIVE SUMMARY AND CONCLUSIONS9In May 2012, the Commission concluded in the first In-Depth Review (IDR) that Spain was experiencingvery serious imbalances, in particular as regards developments related to the external position, privatesector debt levels and the financial sector. As to the financial sector, since last years IDR, a programmefor the recapitalisation of the financial institutions was signed in July 2012. The programme remains ontrack, thereby contributing to the controlling of financial sector related risks. In the Alert MechanismReport (AMR) published on 28 November 2012, the Commission found it useful, also taking into accountthe identification of a very serious imbalance in May, to examine further the risks involved and progressin the unwinding of imbalances in an in-depth analysis. To this end, this IDR takes a broad view of theSpanish economy in line with the scope of the surveillance under the Macroeconomic ImbalanceProcedure (MIP). The main observations and findings from this analysis are that the risks and negativeeconomic trends associated to macroeconomic imbalances, as identified in the 2012 IDR (1), are stillpowerful and have partly materialised:• Negative feedback loops amongst a protracted economic recession, deleveraging and volatilemarket financing conditions remain a tangible threat. Private-sector deleveraging is imparting asignificant negative impulse to domestic demand and has plunged the economy into a double-diprecession since end-2011, which may extend into 2014. Efforts to stem the rise in general governmentdebt contribute to compress domestic demand. Structural rigidities and tight financing conditions havebeen hindering a faster and less costly (in terms of output and employment) adjustment of the realeconomy to post-bubble conditions. In turn, the contracting economy and the associated surge inunemployment are feeding back into a more protracted deleveraging process. Hence, while theadjustment of flow imbalances has advanced in 2012, risks to macroeconomic and financial stabilityhave not yet dissipated.• Spain has responded to these challenges and to the country-specific recommendations of theCouncil under the 2012 EU semester (2) with efforts to consolidate public finances and reformproduct and factor markets. A labour market reform was adopted by the government in February2012 and passed into law in July 2012. A comprehensive reform plan was presented in September2012, covering further reforms to support employment, ensure public finance sustainability, andstrengthen the business environment and competition. While measures have been taken or launched inall these areas, the reform agenda remains incomplete, and even reforms already adopted have notalways displayed their full effects due to implementation lags. As a result, the adjustment capacity ofthe economy remains unsatisfactory, with much of the burden of adjustment falling on employment.• According to the Commission services 2013 winter forecast, the unemployment rate is projectedto rise further to 27% in 2013 (from 25% in 2012). The share of long-term unemployment isincreasing, and with it the probability of hysteresis effects that would lower the growth potential of theeconomy. Wages have only belatedly and gradually started to respond to the slack in the labourmarket, partly in reaction to the 2012 reform of the labour market.• The reduction in disposable income, rising unemployment and falling house prices (down 31%in nominal terms from their peak) are weakening household capacity to repay debt. While theirnet wealth diminishes (housing being the bulk of it), more and more households are affected byunemployment. The fall in house prices accelerated in 2012 on the back of a large stock of unsoldhouses and falling demand. Residential investment and construction activity also fell further. Theadjustment in the housing market is not completed, and further drops in both prices and investment arelikely to allow a narrowing of the gap between supply and demand.• The private sector faces strong pressures to deleverage. The non-financial private sector debt-to-GDP ratio remains elevated, having declined by only around 15 pps. from the 2010 peak of 227%.(1) European Commission, 2012a.(2) http://register.consilium.europa.eu/pdf/en/12/st11/st11273.en12.pdf
10The reduction in debt has been faster for non-financial corporation than in the household sector, due todifferent debt characteristics (in particular the long maturity of mortgages), a stronger fall in non-financial corporation borrowing and larger debt write-downs on non-financial corporation loans. Non-performing loans have increased and are expected to rise further due to the extended economicdownturn.• Net external debt and the (negative) net international investment position remain close tohistorical peaks. Net external liabilities have stabilised at above 90% of GDP since 2009. Thevulnerabilities associated with very high net external liabilities culminated in 2012, when a loss ofmarket confidence on Spanish assets led to large private capital outflows, which were partly offset byofficial capital inflows. In spite of the recent easing, financial market confidence remains highlysensitive to economic and policy developments.• Both cyclical and non-cyclical factors have contributed to the sizeable improvement in thecurrent account balance from a deficit close to 10% of GDP in 2007 to a deficit of slightly lessthan 1% of GDP in 2012. This improvement has been driven by solid export growth and a sharp fallin imports, which can be related to some recovery in cost competitiveness and to shifts in demandcomposition, possibly of a lasting nature. Non-price competitiveness factors and the duality of theeconomic structure (with export companies being typically larger and more productive) havesupported the robust export market shares performance of Spain. At the same time, the sharp fall inimports mostly related to the slump in domestic demand suggests that a considerable part of thecurrent account reversal is cyclical. While around half of the losses in cost competitiveness during theboom period have been reversed so far, part of this improvement is related to the impact of labourshedding on apparent labour productivity. Moreover, the decrease in unit labour costs (ULC) has notfed convincingly into final prices. Further competitiveness gains will be needed to underpin thedynamism of exports and import substitution, and thereby bring about a significant reduction of netexternal liabilities over time.• High and fast rising general government debt has been the flip side of the ongoing adjustmentsin the private sector. The general government budget deficit has fallen from the 2009 peak of 11.2%of GDP but remains high at 6.7% of GDP in 2012 (excluding bank recapitalisation costs). In spite of asubstantial fiscal effort, a faster reduction in headline balances was hindered by the recessionaryenvironment and shifts in tax revenue elasticitites. General government debt, which has also beenaffected by the cost of bank recapitalisations, reached 84% of GDP in 2012 and is set to record furthersubstantial increases in the coming years. The unwinding of macroeconomic imbalances will onlyhave run its full course once the fall-out on the general government sector has also been re-absorbed.The scale and interrelated nature of the policy challenges stemming from these imbalances requirea comprehensive and ambitious policy response. Notwithstanding the measures already adopted orproposed by the government, and whose positive effects depend on their swift and full implementation, anumber of elements can be considered:• The rebalancing of the economy and international competitiveness would be helped by greaterflexibility in the reallocation of resources. This would be fostered by measures to strengthencompetition in product and services markets (including network industries), improve the businessenvironment, support the growth and internationalisation of firms. A review of the growth-friendlinessof the tax system could also be considered.• The adjustment capacity of the economy, the absorption of the large number of unemployed workersand competitiveness rest decisively on a well-functioning labour market. To this end, it would beuseful to (i) undertake a comprehensive review of the impact of the 2012 labour market reform againstits stated objectives (greater efficiency and reduced labour market duality, higher internal flexibility, a
11wage bargaining process that ensures a better alignment of wages to economic conditions, greateremployability of young workers and greater use of permanent contracts) with a view to ensure itseffectiveness and (ii) to enhance active labour market policies (ALMP), public employment servicesand vocational training, so as to improve employability and raise the quality and effectiveness oftraining and job matching.• The stability of the financial system and its capacity to finance the real economy rely on the swiftcompletion of the recapitalisation and restructuring of the banking sector and the strengthening of theregulatory and supervisory frameworks foreseen in the context of the financial sector programme.Increasing the availability of non-bank financing sources and targeted measures for SMEs would alsohelp to alleviate financing constraints on growth and the reallocation of resources. Measures to fostera larger and more efficient rental market could help stabilise the housing sector and promotegeographical mobility of workers.• Ensuring the long-term sustainability of public finances will require continuous efforts in the years tocome. The credibility of the fiscal adjustment would be reinforced by basing consolidation onstructural measures (including to ensure the sustainability of the social security system) as required bythe recommendations under the Stability and Growth Pact, and by further action to reinforce themedium-term orientation and institutional framework of public finances.
1. INTRODUCTION13On 28 November 2012, the European Commission presented its second Alert Mechanism Report (AMR),prepared in accordance with Article 3 of Regulation (EU) No. 1176/2011 on the prevention andcorrection of macroeconomic imbalances. (3) The AMR serves as an initial screening device, which helpsto identify Member States that warrant further in-depth analysis to determine whether imbalances exist orrisk emerging. According to Article 5 of Regulation No. 1176/2011, these country-specific “in-depthreviews” (IDR) should examine the nature, origin and severity of macroeconomic developments in theMember State concerned, which constitute, or could lead to, imbalances. On the basis of this analysis, theCommission will establish whether it considers that an imbalance exists and what type of follow-up it willrecommend to the Council.This is the second IDR for Spain. Based on the previous IDR, which was published on 30 May 2012, theCommission concluded that Spain was experiencing very serious macroeconomic imbalances, inparticular as regards developments related to the external position, private sector debt levels, and thefinancial sector. (4) Overall, in the AMR the Commission finds it useful, also taking into account theidentification of a very serious imbalance last May, to examine further the progress and the risks involvedin the unwinding of imbalances in an in-depth analysis. To this end this IDR takes a broad view of theSpanish economy in line with the scope of surveillance under the Macroeconomic Imbalance Procedure(MIP). (5)Against this background, Section 2 looks in more detail into these developments covering both externaland internal dimensions. This is followed by two focus sub-sections in Section 3 on (i) private sectordeleveraging and (ii) external debt sustainability and current account adjustment. Section 4 discussespolicy conclusions.(3) http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=CELEX:32011R1176:EN:NOT(4) These imbalances and adjustment challenges were analysed in detail in the 2012 In-depth Review (European Commission,2012a).(5) This IDR takes into acount information up to 20 March 2013.
2. MACROECONOMIC SITUATION AND POTENTIALIMBALANCES152.1. MACROECONOMIC SCENE SETTERThe credit-driven housing and domesticdemand boom of the early 2000s left theSpanish economy saddled with major externaland internal imbalances. As analysed in greaterdetail in the 2012 IDR, the strong economicexpansion in the period 1996-2007 (more than3½% real GDP growth per year) was heavilyskewed towards domestic demand and in particularresidential investment. This unbalanced expansion,which was fuelled by abundant availability ofexternal private financing following a sharpreduction in risk premia before and after euro-areaaccession, resulted in the accumulation of highdomestic and external debt, the emergence of amassive real estate bubble, significantcompetitiveness losses and recurrent and wideningcurrent account deficits. The sharp correction ofthis boom in the context of the internationalfinancial crisis triggered a protracted economicrecession with massive employment losses. Sincethe beginning of the crisis (Q3 2008 to Q4 2012),real GDP has dropped by around 5.7% and thenumber of people employed has fallen by almost3.5 million (17% of total employment).While the adjustment has started, theunwinding of imbalances will continue to weighon the medium-term growth outlook. After atemporary stabilisation, the economy fell back intorecession at the end of 2011. Real GDP kept onfalling throughout 2012 and is expected to stabiliseonly towards the end of 2013. On an annual basis,a projected contraction of 1.4% in 2013 isexpected to be followed by a subdued recovery ofaround 0.8% (under a no-policy changeassumption) in 2014. Private-sector deleveraging,very high unemployment, tight financingconditions, and fiscal consolidation constraindomestic demand and imply a profound shift in thecomposition of demand towards net exports (seeGraph 2.1). As a result, the current account deficithas been narrowing and is expected to turn into asurplus from 2013 onwards.Wage growth has belatedly started to react tothe sharp fall in employment. The labour marketsituation deteriorated further in 2012.Unemployment reached 26% in the fourth quarterof 2012 and is expected to keep increasing in 2013.Wage growth started to moderate more noticeablyin 2012, finally responding to the sharpdeterioration in the labour market. Thanks largelyto high apparent productivity growth on the backof labour shedding, unit labour costs sustainedtheir fall in 2012 (-3.4%) and this trend shouldcontinue in 2013, albeit at a slower pace. Inflationremains elevated, essentially due to fiscalmeasures, but also potentially reflecting weakcompetition in some product and service marketsand the application of indexation clauses. Inflationwas 2.8% in February 2013, while core inflationreached 2.3%.
European CommissionMacroeconomic Imbalances - Spain 2013162.2. ADJUSTMENT OF INTERNAL ANDEXTERNAL IMBALANCESSpain faces daunting adjustment challenges andrisks following the bursting of the housing andcredit booms. The correction of imbalancesstarted in 2008 and is ongoing. The adjustment offlows (i.e. current account deficit, investment inconstruction, credit growth) has advanced, but theadjustment of stock variables has been much moregradual and will take considerable time. Very highexternal debt leaves the economy vulnerable tochanges in external financing conditions. Restoringexternal equilibrium requires a move to a sizeablecurrent account surplus position, backed by furtherimprovements in competitiveness and a major re-allocation of resources to the tradables sector.Private sector deleveraging is weighing oneconomic growth, while the economic recessionand the deterioration in the labour market aresimultaneously making the reduction of privatedebt more difficult. The bursting of theconstruction and housing bubble has weakenedbank balance sheets, creating risks for financialstability and adding to overall tight financingconditions, which can in turn slow down therebalancing of the economy. Moreover, theeconomic downturn and the cost of support to thefinancial sector have resulted in a substantialdeterioration of public finances, which is reflectedin the rapid increase in general government debt.The links and feedbacks between the sovereign,the banking sector and the real economy arestrong, calling for enhanced monitoring of theadjustment progress in all areas.An important development since the 2012 IDRhas been the granting of financial assistance toSpain for the recapitalisation of financialinstitutions. (6) Spanish banks have beenadversely affected by the bursting of the real estateand construction bubble and the economicrecession that ensued. The banking sector wascharacterized in the previous IDR as a source ofvulnerability with respect to financial stability andcredit provision to the real economy. Growingmarket tensions in the run up to the request forfinancial assistance of 25 June 2012 confirmed this(6) See the Commission, services reports on the financialassistance programme to recapitalise financial institutionsin Spain, European Economy-Occasional Papers, 118,121, 126 and 130.assessment. Up to EUR 100 billion were madeavailable via the ESM, upon agreement by theEurogroup in July 2012, while actualdisbursements amounted to EUR 41.4 billion. Thecore of the programme is an overhaul of the weaksegments of the Spanish financial sector throughsignificant recapitalisation and restructuring aswell as a segregation of problematic assets fromthose banks receiving public support in an externalAsset Management Company (AMC). Regulationand supervision will also be reinforced. Thefinancial assistance will be provided for the periodJuly 2012 to end-December 2013.The banking sector programme is having apositive impact on the stability of the financialsector in Spain. The second review under theprogramme, concluded in February 2013,confirmed that the programme is on track. (7)Successful implementation of the programme iscontributing to reducing the funding costs ofbanks. This should gradually feed into an easing oflending conditions to households and non-financialcorporations. Given deleveraging pressures, creditgrowth is likely to remain subdued for some time,but this is compatible with restoring credit flows toproductive sectors.The economy remains at a critical juncture,leaving no room for complacency on the reformside. The capacity of the economy to undergo thenecessary structural transformation depends on thesmooth functioning of its factor and productmarkets. The sharp fall in employment andsluggish adjustment of prices suggest significantshortcomings in these areas. Increasing price andcost competitiveness through sustained wage andprice adjustment and increasing labourproductivity beyond the cyclical adjustment relatedto labour shedding is a precondition for returningto a higher growth path, generating employmentopportunities, ensuring the external rebalancing ofthe economy, limiting the costs (in terms of outputand employment) of private sector deleveraging,and supporting the consolidation of publicfinances.(7) http://europa.eu/rapid/press-release_MEMO-13-58_en.htm
2. Macroeconomic Situation and Potential Imbalances172.2.1. Current account and external debtThe current account deficit has narrowedfurther in 2012. The long period of economicexpansion that began in the second half of the1990s and ended in 2007 was characterized byrising current account deficits and growingexternal indebtedness (see Graphs 2.2). During thistime, both households and non-financialcorporations significantly increased investmentexpenditures, the bulk of which went intoresidential investment. These investments werelargely financed by capital inflows channelled viathe Spanish banking sector. As explained in the2012 IDR, the deterioration of external financingconditions prompted a relatively rapid adjustmentof the current account balance. The current accountdeficit fell to 0.8% of GDP in 2012, from a peak of10% in 2007 (and 3.7% of GDP in 2011). Thereduction in the external deficit (including bothcurrent and capital accounts) has been even morepronounced. The medium-term evolution of theexternal deficit will depend on the extent to whichrecent adjustments have been of a permanentrather than cyclical nature (see Section 3.2 formore details). In the short-term, according to theCommission services 2013 winter forecast, theexternal balance is expected to shift from a deficitto a surplus in 2013 (1½% of GDP) and thissurplus is set to double in 2014.The improvement in the net lending position ofthe private sector has consolidated. The netlending/borrowing (NLB) position of the non-financial private sector has reached close to 10%of GDP by end-2012 (Graph 2.2a). According tothe Commission services 2013 winter forecast,both households and non-financial corporations areexpected to remain net lenders over the forecasthorizon (2013-14). This confirms the assessmentof the previous IDR. However, there has beensome shift in the composition of private sectorNLB, with non-financial corporations accountingfor an increasing share at the expense ofhouseholds. This development has been mainlydriven by a change in the behaviour of savingrates. Households have been accumulating savingssince 2008, with the saving rate averaging 14%(i.e. 3 pps. above the long-term historical average).This trend was reversed in 2012, when thehousehold saving rate plummeted to a historicallow of under 9% (four-quarter moving average)amid falling disposable income and risingunemployment. (8) Conversely, the saving rate ofnon-financial corporations has been sharply on therise, as companies reduce costs and strive torebuild their balance sheets. The impact of higherprivate sector net lending on the external deficithas been largely counteracted by a sizeable netborrowing position of the public sector since 2008.From a sectoral perspective, the move to asustained current account surplus will therefore(8) Record low saving rate of households in Q3 2012 has beenalso driven by some temporary factors. Householdsincreased their consumption in this quarter as theyadvanced their purchases ahead of the expected ValueAdded Tax (VAT) increase.
European CommissionMacroeconomic Imbalances - Spain 201318require further balanced improvements in bothprivate and public sector NLB.The improvement of the trade balance is onlypartly driven by permanent factors andremains incomplete. A precise quantification ofthe relative weight of cyclical versus non-cyclicalfactors is not straightforward (see Section 3.2 formore details). In the case of exports, while non-price-related factors continue to play a role(increasing geographical diversification andproduct specialisation), recent improvements inprice competitiveness should help sustain thestrong export performance in the coming years.With regard to imports, the observed shift in thecomposition of final demand towards exportsimplies a reduced overall response of imports tofinal demand, as their elasticity to domesticdemand is much higher than their elasticity toexports (1.5 compared to 0.6). Nevertheless, theslump in domestic demand and the severedeterioration in the labour market have clearlybeen key drivers of the fall in imports and havecontributed to the adjustment in the trade balance.Without these factors the current account wouldhave recorded a much higher deficit. While part ofthe fall in demand can also be considered to be of alasting nature, further improvements in exportperformance and a further rebalancing of theeconomy away from domestic demand are neededto bring about the durable external surplus requiredto reduce the very high level of net externalliabilities (9) (see Section 3.2 for more details).Since 2009, the net international investmentposition (NIIP) has remained broadlyunchanged in terms of GDP. (10) The NIIP standsat a very high level of -92%, substantially abovethe MIP scoreboard threshold of -35%. Thecomposition of Spains NIIP adds to thevulnerability of the Spanish economy to externalfinancial shocks (see Section 3.2 for more details).Indeed, in the first half of 2012, Spain experienceda major shortage of private external financing,which was filled by an increased reliance on(9) As an illustration, according to the Commission servicesestimates, a primary current account surplus of 1% of GDPwould be required on average to reduce the netinternational investment position (NIIP) to 50% of GDPover 20 year horizon.(10) The negative NIIP peaked in 2009 at 93.8% of GDP,declined slightly to 89.5% of GDP in 2010 and increasedagain to 91.7% in 2011, driven by the denominator effect.Eurosystem financing. While these problems haveabated since late 2012, they demonstrate the extentof vulnerabilities and the potential repercussionson financial stability, the real economy and, thus,also public finances. Central bank credit hascounteracted the potential impact of a sudden stopin external financing and a major credit crunch,thus making it possible for policy-makers tointroduce policies addressing the underlyingstructural problems.2.2.2. Export performance andcompetitivenessExports of goods and services have beenresilient. Despite a significant loss of cost andprice competitiveness during the boom years,Spain experienced a modest loss in export marketshare in comparison to other European countries.As discussed in the 2012 IDR and in Section 3.2,this puzzle can be explained by the duality of theSpanish economy (different characteristics ofexport firms compared to the national average) andthe impact of non-price competitiveness factors.Spanish export firms remained relativelycompetitive during the decade prior to the crisis,while on average theeconomy recorded significant losses incompetitiveness. In addition, Spains good exportperformance appears to be due to improvedproduct specialisation as well as to geographicaldiversification. In the most recent years, the robustexport performance has also been supported bysome improvements in cost competitiveness, asunit labour costs have been falling since early 2010(see Graph 2.3a). This trend is expected tocontinue in 2013-14, according to the Commissionservices 2013 winter forecast, but at a moremoderate pace. While exports of services havebeen less dynamic than exports of goods in theperiod 2010-2011, this trend reversed in 2012,driven by rapid growth of exports of non-tourismservices (see Section 3.2 for more details). Exportsof non-tourism services are expected to increasetheir relative importance in the composition ofSpanish exports in the coming years.An unfavourable size distribution of firms mayhamper further improvements in exportperformance. Spain has traditionally beencharacterized by a relatively low number ofexporting firms compared to its European peers,although this number has been steadily increasing.
2. Macroeconomic Situation and Potential Imbalances19Thus, the rise in the number of exporting firms (theextensive margin) appears to have contributedsignificantly to the growth of exports since 2008.However, how lasting is the presence of smallerfirms in export markets remains to be seen. Moregenerally, international evidence suggests that theexport performance of different countries is closelycorrelated with firm size. This highlights the needto review possible regulatory and other obstaclesthat could prevent the emergence of a firmstructure more conducive to a stronger exportorientation of the economy (see Box 3.1).A rise in apparent labour productivity andstronger wage moderation have brought aboutan improvement in indicators of internationalcost competitiveness. Considering the realeffective exchange rate (REER) vis-à-visindustrialized countries (IC-35) deflated by theHarmonized Index of Consumer Prices (HICP), theappreciation of REER between 2000 and 2008 wassignificant (around 20%) and the subsequentadjustment has been much smaller (around 7%).The REER deflated by unit labour costs (ULC) inmanufacturing, suggests instead that Spain hasalready recovered about half of the cost
European CommissionMacroeconomic Imbalances - Spain 201320competitiveness lost up to 2008 (see Graph 2.3b-d), extending further the trend observed in theprevious IDR. (11) However, the adjustment ofULC has been largely driven by the economicrecession and very high unemployment, and itcould partly reverse once the cyclical conditionsimprove. Further lasting improvements incompetitiveness and the rebalancing of theeconomy towards tradable sectors will also requirefurther adjustments in relative prices and wagesbetween the tradable and non-tradable sectors. Theadjustment of relative wages has started to besupportive of the rebalancing only more recently.In the long run, increases in productivity at firmlevel would need to accompany apparent labourproductivity improvements to a larger extent todeliver sustainable competitiveness gains.2.2.3. Housing marketThe adjustment in the housing sector has beensevere but has not bottomed out yet. Thehousing boom in Spain was unusually long andintense. House prices almost tripled between 1997and early 2008, while the construction of housingmore than doubled from its 1995 level (see 2012IDR). The weight of investment in constructionreached 22% of GDP in 2006-07, up from 15% in1995. This represented a significant diversion ofproductive resources from the tradable sector tothe non-tradable construction sector. The turningpoint had already been reached in late-2006 andearly-2007, when interest rates started to rise. Asthe economy still grew by close to 4% in 2007, theinitial adjustment was relatively soft. However, theeconomic and financial crisis in 2008 triggered amuch sharper correction (see Graphs 2.4). Inparticular, a combination of a sharp drop inhousing demand and existing oversupply of housesresulted in a downward correction of house prices,which has accelerated in recent quarters.The fall of investment and employment inconstruction is continuing, driven by residentialconstruction. The share of residential investmentin total GDP fell from 12.5% of GDP in 2006 to5.3% in the fourth quarter of 2012, below the(11) While REER deflated by ULC has adjusted significantly,the adjustment has been less pronounced if REER deflatedby export prices is considered, where only about one thirdof the competitiveness lost has been recovered. Thisimplies that improvements in external cost competitivenesswill not be as fast as implied by the ULC reductions.historical low of 7% in 1997. However, theadjustment is still ongoing, with residentialinvestment falling by 8.7% year-on-year in thefourth quarter of 2012. At the same time,employment in the construction sector fell byaround 1.6 million (2008-12), and continues to falleven though the weight of construction inemployment has reached its lowest level since1976. In addition, the number of house permits isstill declining, suggesting that the trough in thissector may not be reached before 2014-15.Absorption of the excess supply of houses isprogressing slowly. The oversupply of newhousing is estimated by the government to bearound 700,000 units. (12) Demand for housing hasbeen weak and is set to deteriorate further in linewith its fundamental determinants, includingfalling household real disposable income anddeclining population. Tight financing conditionsand the expectation of further price declines alsocontribute to depressing demand. Sales of newhouses fell from more than 400,000 in 2007 toaround 115,000 in 2012. Taking into account thenumber of transactions between July 2011 andJune 2012, it could take approximately six years toabsorb the remaining stock of unsold houses. (13)House prices are expected to fall further. Thefall in house prices accelerated in 2012 (-12.8%year-on year in Q4 2012), reaching an overall fallof 31% in nominal terms and 38% in real termssince the peak in 2007. (14) This is consistent withwhat was anticipated in last years IDR. Given thestill ongoing adjustment in the construction sector,the stabilization of house prices may have nowbeen pushed towards 2014, notwithstandingconsiderable variation in housing marketconditions across regions. Other factors impactingon house prices include the elimination of taxincentives as of the beginning of 2013 and thetransfer of problematic real estate assets from(12) An updated estimate should be available in the first half of2013(13) Housing needs are estimated to exceed 200,000 dwellingsper year (considering the evolution of population and therecent trends in home composition). To the extent thatthese housing needs are converted into an effective housingdemand, the stock of unsold dwellings could be absorbedin a period of about four years.(14) Based on the Spanish National Statistics Institutes (INE)house price index.
2. Macroeconomic Situation and Potential Imbalances21state-aided banks to the AMC (Sareb (15)). Sarebslarge portfolio of foreclosed assets will consistpredominantly of houses. While its sales of assetsare likely to be gradual, its presence mayincentivise other players in the market toaccelerate their sales, thus leading to a fasteradjustment of prices and a quicker stabilisation ofthe housing market.2.2.4. Deleveraging by households and non-financial corporationsPrivate sector deleveraging is progressingpredominantly through the adjustment in netlending. The credit boom, with annual growthrates of around 20% in the middle of the last(15) Sociedad de Gestión de Activos Procedentes de laReestructuración Bancaria, S. A.decade, was largely driven by loans related toconstruction and housing, although loans forhousehold consumption also played a role. The fallin housing demand from 2008 onwards, along withthe tightening of credit conditions, contributed to acontraction of credit. In November 2012, (16) totaldomestic credit shrank by 3.6% year-on-year,driven by the decline in credit to the private sector(-4.5%, see Graph 2.5).(16) The latest available data are for January 2013. However,these data (as well as data for December 2012) areartificially affected by the impact of the transfer of assetsfrom banks which were already state-owned at the time ofthe stress test to Sareb.
European CommissionMacroeconomic Imbalances - Spain 201322Domestic lending to non-financial corporationsand households fell by 8.7% and 3.4% year-on-year respectively.Despite a significant adjustment in terms ofcredit flows, private sector debt remainsparticularly elevated. Households and firmsremain overly indebted relative to other EUcountries as well as by historical standards asmeasured with respect to their assets and theircapacity to repay debt (see Section 3.1 for moredetails). Overall, the private sector has reduced itsindebtedness by about 15pps. of GDP from itspeak, but leverage is still much above the pre-boom levels and the MIP scoreboard threshold(213% of GDP in Q3 2012 against the MIPscoreboard threshold of 160%). Given the size ofthe imbalances as well as the historical and cross-country experience, the deleveraging is likely totake long (see Section 3.1 for more details) and tocontinue to hold back domestic demand. By thethird quarter of 2012, the debt-to-GDP ratio haddeclined by around 7 pps. for households and 8pps. for non-financial corporations compared totheir respective peaks.Non-performing loans (NPL) are set to risefurther. The current double-dip recession couldput additional strain on the balance sheets ofhouseholds and non-financial corporations. Thealready-record-high unemployment rate isprojected to increase further and to affect to agreater extent those households with formerlystable employment, who are the most exposed tohousing loans (see Graph 2.6a). The level of non-performing mortgage loans, although stillrelatively low, has been increasing in recentquarters, reaching 3.5% in the third quarter of 2012from around 3% in 2011. The real estate andconstruction sectors account for the bulk of totalNPL. In the third quarter of 2012, the share of NPLstood at 30% for real estate activities and 26% forconstruction sector, compared to 8% level forindustry, excluding construction and a similar levelfor other services. As the adjustment of thehousing market continues and further drops inhouse prices are expected, the NPL in these twosectors are likely to increase further in the comingmonths.Spanish financial institutions have significantlyincreased their loan loss provisions since thebeginning of the crisis. This process hasaccelerated in 2012 with Royal Decree Law (RDL)2/2012 and RDL 18/2012, which raised theprovisioning requirements for real estatedevelopers exposure. Between 2008 andSeptember 2012, banks increased their specificprovisions by about EUR 92 billion (around 8% ofGDP). The ongoing recapitalisation of the Spanishbanking sector under the financial assistanceprogramme ensures capital buffers in the event offurther rises in NPL. (17)The high stock of private debt remains a dragon growth and a source of vulnerability,exacerbated by rigidities in product and servicemarkets. Prolonged deleveraging impliessignificant negative effects for growth, financialstability and, via these two channels, for publicfinances. Even though risks for financial stabilitystemming from the deterioration of banks assetsare being addressed by the ongoing banking sectorcapitalisation and restructuring, they could still bereignited in case of a steep deterioration in theeconomic environment or external financialshocks. There is in particular the risks of negativefeedbacks between deleveraging in the non-financial private sector and fiscal consolidation,lower growth and employment, the capacity ofhouseholds and companies to repay debt and thecapacity and willingness of the banking sector toprovide financing to the real economy. Thenegative impact of the necessary adjustment isgreater in an environment of inflexible labour andproduct markets (see Section 3.1 for more details).2.2.5. Public debtGeneral government debt is a rapidly emergingimbalance, largely as a consequence of theadjustment in the private sector, the weakmacroeconomic outlook and financial sectorsupport. The misalignment between publicexpenditure and public revenues, which werebased on a tax-rich growth pattern during thehousing boom, has contributed to fuel the increase(17) The capital needs were estimated on the basis of an asset-quality review and a bottom-up stress test. Both thebaseline and adverse scenarios of this exercise can be stillconsidered valid references according to currentdevelopments and updated macroeconomic forecasts. Fordetails, seehttp://www.bde.es/f/webbde/SSICOM/20120928/informe_ow280912e.pdf.
2. Macroeconomic Situation and Potential Imbalances23in debt. In nominal terms, general government debthas increased by about 102% since end-2008 (untilQ4 2012 when it reached 84% of GDP) and isexpected to reach close to 100% of GDP by 2015despite fiscal consolidation. One of the importanteffects of rising fiscal deficits and growing generalgovernment debt has been a significant increase inSpanish risk premia, with knock-on effects on thecost of financing of the financial and non-financialprivate sector.The electricity tariff deficit implies aconsiderable contingent liability for the budgetas well as non-negligible macroeconomic risksand may negatively affect the debt dynamics inthe future. In 2012, the deficit (i.e. the gapbetween regulated access tariffs paid byconsumers and various regulated costs - includingdistribution costs and subsidies for renewableenergy production) reached over EUR 5 billion(around 0.5% of GDP), exceeding the envisagedlevel of EUR 1.5 billion by a wide margin. Somenew measures were recently adopted to contain thedeficit in the future, including new taxes on energyproduction, a revision of the annual adjustment ofregulated costs, and a simplification of the systemof support to renewable energy sources. Despitethese measures the electricity tariff deficit is stillexpected to be sizeable in 2013, leading theauthorities to propose in February an extraordinarycredit from the state budget of EUR 2.2 billion.The accumulated tariff debt amounts to almost 3%of GDP.2.2.6. Labour marketThe economic adjustment in the context of adual and overly rigid labour market structurehas contributed to a dramatic decline inemployment. Employment was affecteddisproportionately by the economic downturn dueto the downsizing of the construction sector and torigidities in the labour market. The lack offlexibility at the firm level coupled with a systemof dual employment protection has resulted in amassive dismissal of (mostly) temporary workers.A comprehensive labour market reform wasadopted in February 2012 and passed by law inJuly 2012. This reform allows firms greaterflexibility to adjust wages and employment(including working hours) to their specificeconomic situation. It also lowers dismissal costsof permanent workers and reviews dismissalprocedures as a means to reduce duality. However,severance pay for unfair dismissals remainselevated in international comparison, while the gapbetween severance pay for temporary andpermanent contract is biased in favour ofemployment of limited duration. Given the currentweakness of the Spanish economy and therelatively short time span since the entry into forceof the final provisions of the reform, it may stilltake some time before its effects become fullyapparent. However, evidence regarding wagemoderation and duality appears to be more mixedand a thorough assessment of the reform wouldhave to critically review the impact on wagedynamics and labour market segmentation. Activelabour market policies (ALMP) play a stillinsufficient role in promoting labour mobility andin reducing the occupational and skills mismatch.There are growing risks of hysteresis effects inthe labour market and thereby of a reduction infuture potential output growth. Theunemployment rate reached 26% in the fourthquarter of 2012 (see Graph 2.6a) and is expected toincrease further in 2013, according to theCommission services 2013 winter forecast. Theyouth unemployment rate reached 55%. A noveltrend since the previous IDR is that permanentemployment is now decreasing at similar rates astemporary employment (see Graph 2.6b.Moreover, the duration of the crisis has led to anincrease in long-term unemployment. In the lastquarter of 2012, more than one half of totalunemployment was long term - twice the level of2008. In this context, the employability of youngand long-term unemployed (many of the latter arelow-skilled workers, especially from theconstruction sector) poses a major challenge.Improving employability would be important toaddress these risks and ensure the effectivenessof the February 2012 reform. Reinforcing activelabour market policy could help activating theunemployed and upgrading their skills, especiallyfor those more at risk, like the young and long-term unemployed and low-skilled. It would alsocontribute to promote the rebalancing of theeconomy towards more export-oriented sectors.
European CommissionMacroeconomic Imbalances - Spain 201324
3. IN-DEPTH ANALYSIS OF SELECTED TOPICS253.1. PRIVATE SECTOR DELEVERAGING3.1.1. IntroductionPrivate sector indebtedness remains a majormacroeconomic imbalance in Spain. Bothhouseholds and non-financial corporations morethan doubled their debt levels as a share of GDP inthe decade following the introduction of the euro.With credit flows averaging around 23% of GDPduring 2000-2007, the stock of private sector debtpeaked at 227% of GDP in 2010, leaving theSpanish private sector amongst the most indebtedacross the Member States. The large debt overhangimplies significant deleveraging pressures, whichwill take time to be alleviated and will continue toweigh on domestic demand and economic growth.The overexpansion of lending has also resulted in alarge amount of impaired assets in banks balancesheets, requiring public support for therecapitalisation of a significant part of the bankingsystem.While the deleveraging (18) process gainedspeed over 2011 and 2012, the impact on debtstocks is gradual. The total stock of debt stood at213.5% in the third quarter of 2012, some 15 pps.of GDP lower than the peak reached in the secondquarter of 2010, mostly due to a fall in non-financial corporation debt. A gradual decline indebt is in line with historical experience showingthat deleveraging processes take considerable timeand imply large output losses, particularly whenaccompanied by banking and housing crises. (19) Areduction in the debt-to-GDP ratio can occur(18) Throughout the text, deleveraging should be interpreted asa decrease in the debt-to-income or the debt-to-asset ratios,as specified in the text.(19) Countries with boom-bust credit cycles typically have deeprecessions and sluggish recoveries, with GDP remaining 9-10% below the pre-crisis trend in the next 5-10 years (IMF(2009)). Deleveraging episodes accompanied by a housingcrisis took 5.5 years on average across high-income OECDeconomies and reduced private debt-to-GDP ratios by 20pps. If they were accompanied by a banking crisis, theytook 7 years, the reduction in debt-to-GDP was 30 pps. onaverage and the recovery in GDP was considerably slower(see Aspachs-Bracons, et al., 2011). Evidence presented byIMF (2012a) indicates that housing crises, which arepreceded by a build-up of household debt, result in a fall inreal private consumption and GDP of 4%, on average, overa 5-year period. In the absence of a banking crisis thedecline in private consumption is limited to 2%.through different levers: (i) negative net creditflows, (ii) inflation, (iii) real GDP growth, and (iv)debt write-offs. (20) In Spain, it is being drivenmainly by the reversal of credit flows, althoughwrite-offs are also playing a role in the corporatesector. The prolonged economic contractionhampers the deleveraging process via thedenominator effect but also via its impact on thesaving potential of households and non-financialcorporations. Labour and product market rigiditiesand a high degree of price and wage inertia havemagnified the loss in output and employmentassociated with the reallocation of resources in theeconomy and deleveraging.Different benchmarks suggest that the privatesector is subject to high deleveraging pressures.Both households and firms remain overly indebtedin terms of both the actual level of debt and thebuild-up of debt over the boom period 2000-08.When comparing current debt levels to staticbenchmarks such as that based on the MIPthreshold methodology or pre-boom level of thedebt ratio in 2000, the required remainingadjustment of the debt-to-GDP ratio isconsiderable: for households it would be 24 to 36pps. and for non-financial corporations 45 to 60pps. (see Graphs 3.1). In an alternative approachprivate debt sector is considered sustainable if thenotional leverage is stationary (21) - i.e. if deflateddebt were to evolve in line with deflated assets.Graphs 3.1 show that, between 2001 and 2007, thegap between actual debt and its balanced orsustainable path increased rapidly, especially forhouseholds. In the case of households, this was dueto a significant extent to the expansion in liabilitiesassociated with rapidly rising house prices. Takinginto account the recent correction, the gap betweenactual debt-to-GDP ratios and their balanced pathsis 29 and 12 pps. for households and non-financialcorporations respectively. The following sub-sections look at the household and non-financialcorporation sectors in greater detail.(20) When considering debt-to-assets, valuation effects onassets and liabilities are also important.(21) The notional leverage is the ratio of debt-to-assetsadjusted for valuation effects. It represents an indication ofthe ability of households and non-financial corporations toincur liabilities.
European CommissionMacroeconomic Imbalances - Spain 2013263.1.2. HouseholdsSpanish households leverage grew at a veryfast pace in the run up to the financial crisis in2008. Driven mostly by low interest rates,abundant credit availability, and easy financingconditions, the household debt-to-GDP ratioincreased to 86% of GDP in 2010, more than twicethe level in 2000 (see Graph 3.2a). As a share ofgross disposable income, household debt surged to131% in 2007, from 69% in 2000. Much of theincrease in household debt was linked toresidential mortgages. Consumer credit alsocontributed to the increase, although to a muchlesser extent (see Graph 3.2b).203040506070809010096 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11% GDPGraph 3.1a:Debt sustainability, Households(HH)Indebtedness, HH sector2000 levelStatistical thresholdSustainable benchmark2040608010012014016096 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11% GDPGraph 3.1b:Debt sustainability, Non-financialcorporations (NFC)Indebtedness, NFC sector2000 levelStatistical thresholdSustainable benchmarkSource: Commission services (Eurostat)Note: Sustainable benchmark: Private debt is considered "sustainable" whenever it implies that debt evolves in line with deflatedassets (i.e. assets corrected for valuation effects). In technical terms, the debt-to-assets ratio adjusted for valuation effects (i.e."notional leverage") should be stationary. Statistical threshold: This is the debt-to-GDP ratio corresponding to the third quartile of the1995-2008 distribution of this variable for EU27 Member States.020406080100120140010203040506070809010095 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12Debtratio(vs.GDI,%)Debtratios(vs.GDP&assets,%)Graph 3.2a:Household indebtednessindicatorsDebt / GDP (lhs) Debt / assets (lhs)Debt / GDI (rhs)-50510152025303504Q1 05Q1 06Q1 07Q1 08Q1 09Q1 10Q1 11Q1 12Q1%Graph 3.2b:Decomposition of rate of changeof household debtHouse purchase Consumer creditOther TotalSource: BdE, INE (a) and Bde (b)
3. In-Depth Analysis of Selected Topics27The increase in household debt went hand-in-hand with the accumulation of non-financialassets. Non-financial assets represent the bulk ofSpanish household wealth. (22) Compared to mostother Member States, the gap between householddebt-to-financial assets and debt-to-total assetsratios in Spain is relatively higher. This can beexplained by the fact that the proportion of housingassets in household balance sheets is also higher inSpain than in other Member States (see Graph3.3a). As such, the household balance sheetexpansion in the boom period gave rise to a mildincrease in the leverage ratio as debt grew broadlyin line with an expanding value of non-financialassets (see Graph 3.3b). However, if adjusted forvaluation changes, where valuation effects ondebt-generating instruments are minor compared tothose on assets (in particular considering the largeincrease in house prices), household debt grewmuch faster than deflated assets, implying a sharpincrease in notional leverage. Even on this metric,the debt total asset ratio remains below 20%,which is relatively low by international standards.The household debt-to-GDP ratio is on a milddownward path, driven by an adjustment in theflow of credit. When GDP growth contracted(22) Indeed, 87% of household total net wealth is related tohousing, reflecting a high ownership ratio and a significantdegree of ownership of secondary houses, while theremaining 13% constitutes financial wealth.following the outbreak of the crisis, the debt-to-GDP ratio continued to increase. Subsequently, thedebt ratio stabilized and moved on a downwardpath from the second half of 2010 onwards, fallingfrom 87% of GDP to around 80% of GDP in thethird quarter of 2012. As a share of grossdisposable income, debt fell to 123%, despitefalling disposable incomes in 2010-12. Theseratios remain high from both historical and cross-country perspectives. Household borrowing hasbeen contracting since 2009 (see Graph 3.4a). Thecontraction was faster in consumption loans thanmortgages, but the former account for a small partof total debt (see Graph 3.4b).Households appear to have gradually exhaustedtheir financial asset buffers. During the crisis, thecomposition of household financial assets hasshifted towards less risky and more liquidinstruments, in particular deposits. As discussedearlier, the household saving rate has already fallenbelow its pre-crisis level. Debt servicing burdenhas risen somewhat from the low levels seen in thefirst period of the financial crisis, as disposableincome has been diminishing (see Graph 3.5a ).020406080100120140160ITMTFREA17LUNLFIESSKROCZHUSEDKeuro area non-euro area% of assetsGraph 3.3a:Household indebtedness, EU 27countries, 2010Debt to financial assetsDebt to total assetsDebt to deflated financial assetsDebt to deflated total assets051015202595 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11%Graph 3.3b:Household notional leverageDebto to total assetsDebt to total notional assetsSource: Commission services (Eurostat)Note: The notional leverage is the ratio of debt-to-assets adjusted for valuation effects. It represents an indication of the ability ofhouseholds and non-financial corporations to incur liabilities.
European CommissionMacroeconomic Imbalances - Spain 201328Real disposable incomes are being squeezed byrising unemployment, wage moderation andrelatively persistent inflation due to the impact ofhikes in indirect taxes and tariffs. Household netwealth has also declined (see Graph 3.5b), mainlydue to the fall in real estate prices, which hasgathered pace in recent months. Total wealthremains high by international standards but near-term prospects for both incomes and wealth arenegative as unemployment continues to rise andhouse prices are expected to decline further.Moreover, the predominance of non-financialassets reduces the degree of liquidity of householdwealth. All in all, the household capacity to repaydebt has been weakened and is subject to risksgoing forward.The household sector has moved into a net-lending position since 2008. Falling employeecompensation, wealth losses on financial and non-financial assets and increased uncertainty spurred asharp increase in the saving rate to around 19% in2009. Subsequently, the saving rate declined to ahistorical low of 8.8% of gross disposable income(GDI) in the third quarter of 2012, well below itslong-term historical average level of 11%.Households are expected to remain net lendersover the coming years, but the saving rate is-15-10-5051015202530354095 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12*% of GDP Graph 3.4a:Sectoral decomposition of creditflowsHouseholdNon financial corporationsPrivate sector EA17MIP ThresholdPrivate sector-20-1001020304004 05 06 07 08 09 10 11 12y-o-y % Graph 3.4b:MFI lending to householdsLoans for house purchaseLoans for consumptionSource: Commission services (Eurostat)* Estimation based on quarterly data-50510152000 01 02 03 04 05 06 07 08 09 10 11 12Ratios(GDI,%)Graph 3.5a:Financial position of householdsInterest payments / gross disposable income, HouseholdsInterest payments / gross disposable income, Households, EASaving rate, HouseholdsGross disposable income (pct change)010020030040050060070080090 92 94 96 98 00 02 04 06 08 10 12% of GDP Graph 3.5b:Households total wealthReal estate wealth Net financial wealthSource: Commission services (Eurostat) (a) and BdE (b)
3. In-Depth Analysis of Selected Topics29expected to remain subdued due to thecombination of falling disposable income andalready low per capita consumption expenditure.This will limit the ability of households to rapidlyreduce their debt ratios.The pace of household deleveraging is alsoconstrained by the high share of mortgage debt.More than 90% of household debt consists ofmortgages, almost all of which have variableinterest rates linked to the 12-month Euribor rate.These mortgages have maturity periods of over 20or 30 years. The burden on households has beenmitigated by the fall in euro-area short-terminterest rates, as well as by refinancingprogrammes offered by many creditinstitutions. (23) Recently, the government hastaken measures to protect the most vulnerablemortgage borrowers. In addition, Spain hasrelatively complex and lengthy bankruptcyprocedures for both households and non-financialcorporations. As a result, bankruptcy proceduresare rarely undertaken by households and thepersonal insolvency rate is very low. (24) Finally,tax incentives for owner-occupied housing, nowdiscontinued for new purchases, may bediscouraging households from earlier repayment ofoutstanding mortgages.The rate of non-performing mortgages is low(3.5% in the third quarter of 2012) but its risehas accelerated recently. This low rate is partlyexplained by generally prudent loan-to-valueratios (25) and the legislation that makes borrowersliable for all their assets in the event of the risk ofdefault. The current recession, if prolonged, couldadditionally strain household balance sheets andhamper orderly deleveraging efforts.3.1.3. Non-financial corporationsNon-financial corporations are highly indebtedrelative to other EU countries as well as byhistorical standards. Their debt increased fromaround 45% of GDP in 1996 to around 140% in2010 (see Graph 3.6). The debt-to-asset ratio is(23) It is estimated that households save as much as 30% ofmonthly mortgage payments when compared to the initialdate when the loan was taken (S. Gonzalez, 2012).(24) Insolvencies in Europe’, CreditReform, February 2012(25) According to the 2011 European Banking Authoritys EU-wide stress test, the mortgage loan-to-value ratio wasslightly below 55% in 2010.also high, in particular if assets are measured on aconsolidated basis (excluding intra-sectorincurrence of debt). The ratio stands at 133% ofGDP, vis-à-vis a euro-area average of 76%.Similarly, when measuring leverage with respectto gross operating surplus, a proxy for firmscapacity to generate income and thus repay thedebt, non-financial corporations appear to behighly leveraged, as debt is six times higher thanthe gross operating surplus (see Graph 3.7). All inall, Spanish non-financial firms appear over-indebted with respect to both their assets and theircapacity to repay debt.The increase in indebtedness of non-financialcorporations was to a large extent driven by thereal estate boom. During the years of strongestgrowth of credit to non-financial corporations(2004-08), credit to construction and real estate02040608010012014016095 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12Debtratios(vs.equity,GDP&totalassets,%) Graph 3.6:NFC leverage indicatorsDebt / GDP Debt / equityDebt / assets Debt / assets, consolidatedSource: BdE, INE3004005006007008009000510152025303501 02 03 04 05 06 07 08 09 10 11 12%ofGrossOperatingSurplus%ofGrossOperatingSurplusGraph 3.7:NFC indebtedness and financialburdenInterest payments (lhs) Indebtness ratio (rhs)Source: Commission services (Eurostat)
European CommissionMacroeconomic Imbalances - Spain 201330activities accounted for 54% of the overall creditgrowth. As a result, the bank debt (26) of theconstruction and real estate sectors represents 10%and 32% of total bank lending to non-financialcorporations respectively in the third quarter of2012 (see Graph 3.8a). Other sectors appearrelatively less indebted and in line with EU andeuro-area averages (except for sectors like hotelsand restaurants whose leverage is slightly higherthan in most euro-area countries).The very weak financial position of theconstruction and real estate sectors willcontinue to impact on the evolution of corporatedeleveraging. These two sectors have the highestleverage (measured by the debt-to-asset ratio) andaccount to a large extent for the increase in non-performing loans in the corporate sector (seeGraph 3.8b. While the ratio of NPL to total loans isaround 8% for industry and services not related toreal estate or construction, it is 26% forconstruction and 30% for real estate activities.According to the latest Bank of Spain (BdE) data(Q3 2012), 74% of total NPL are linked to realestate and construction activities. A scenario ofhigher defaults in the construction and real estatesector has been considered in the bottom-up stresstest exercise of the Spanish banking sector aimedat establishing the necessary recapitalisationamounts under the financial assistance programme.(26) Debt is defined as the sum of loans and securities otherthan shares. Loans (banks debt) represented 98% of theoverall debt in the third quarter of 2012.The deleveraging of non-financial corporationshas accelerated in recent quarters. A rapidadjustment of credit flows started when theSpanish economy entered into a recession in 2009(see Graph 3.4). Since then, nominal debt has beenon a declining path. By the third quarter of 2012 ithad decreased by around 6% from its peak in 2008,although the pace of deleveraging has been unevenacross different sectors. In particular, while creditto the construction sector has adjustedsignificantly, credit to real estate activities hasbeen adjusting in line with the non-financialcorporation sector average (see Graph 3.10). (27)This different speed of adjustment of flows is also(27) Anecdotal evidence suggests that big constructioncompanies, which are also present on the internationalmarket, have started divesting their assets abroad thushelping to reduce their indebtedness.2%15%10%32%41%Graph 3.8a:Breakdown of NFC bank debt bysector (3Q 2012)agricultureindustry (excl.construction)constructionreal estateother services0510152025303509Q1 09Q3 10Q1 10Q3 11Q1 11Q3 12Q1 12Q3% Graph 3.8b:Evolution of share of doubtfulloans in total loans by non-financial corporatesectorstotalreal estateconstructionagricultureindustry (excl. construction)other servicesSource: BdE
3. In-Depth Analysis of Selected Topics31impacting the adjustment of the stock ofaccumulated debt (-41% for construction sector vs.-12% for real estate activities). Due to thecontraction in GDP (denominator effect), the debt-to-GDP ratio started to decrease only in 2010 (seeGraph 3.9a). The adjustment in the corporatesector tends to be faster than in the householdsector. This is largely due to the greaterimportance of debt write-offs, mainly as regardsconstruction and real estate loans, and the shortermaturity of debt. By the third quarter of 2012, thenon-financial sector debt-to-GDP ratio haddecreased by 8.4 pps. from its peak. Theadjustment with respect to consolidated financialassets has been much more significant, nearly 14pps. However, when measured against equity orfinancial assets (non-consolidated), leverage is stillon an upward path due to negative valuationeffects.Encouragingly, companies and sectors thatwere highly indebted at the start of the crisishave been deleveraging faster. A recent study bythe Bank of Spain (see BdE Economic Bulletin,January 2013) looks at the evolution of corporateindebtedness between 2007 and 2011 at firm leveland by sector. The results show that companiesand sectors, which were highly indebted at theonset of the crisis, have been reducing debt fasterthan the average, while firms that started from alow level of debt have actually increased theirleverage over the period. The pattern has beensimilar for large companies and SMEs. Thefindings suggest that deleveraging can becompatible with a healthy reallocation of lending.The non-financial corporate sector has movedto a positive and increasing NLB position since2010, as savings have increased and investmenthas fallen. The increase in gross savings has beenthe main driver behind the increasing net lendingposition. In particular, corporations increased theirgross savings through two main channels: adecrease in the compensation of employees and asignificant fall in taxes and interest rate payments(see Graph 3.9b). In a context of turbulence andtight borrowing conditions, companies have beenbuilding up internal financing buffers bymaintaining high profit margins instead of fullypassing the wage moderation on to lower (export)prices (28) (see Section 3.2 for more details) aswell as by restructuring and reducing investment.In the near term, the adjustment in non-financialcorporation balance sheets is expected to continueas corporate savings increase on the back ofimproved profitability, while investment in realestate and construction continues to shrink.(28) The need to deleverage and rebuild balance sheets and theassociated maintaining of high profit margins suggests thatimprovements in external cost-competitiveness may beslower than reductions in unit labour costs for as long asthe deleveraging process continues.-10-505101520253001 02 03 04 05 06 07 08 09 10 11% of GDPGraph 3.9a:Decomposition of change in ratioof NFC debt to GDPNominal holding gains/lossesOther changes in volumeNet credit flowsReal GDP contributionInflation contributionTotal-8 -6 -4 -2 0 2 4 6Labour costs/ GVADistributed income (paid)/ GVA(Net interest, net taxes, nettransfers and others -distributed income received)/ GVAChange, as a % of GVAGraph 3.9b:Change in selected ratios fromincome accounts, NFC2001-2007 2007-2011Source: Commission services (Eurostat)
European CommissionMacroeconomic Imbalances - Spain 201332The rise in the corporate net lending positionobserved since the beginning of the crisis seemsto reflect a lasting balance-sheet adjustment.The factors that have triggered the balance sheetrestructuring such as changes in risk premia, lowerasset prices, and lower growth expectations, arelikely to shape firms behaviour in the years tocome, while the impact of the sudden disruption ofprivate foreign capital flows, which have alsocontributed to the rise in the net lending position,should progressively fade out. This points to aprotracted balance sheet adjustment process.3.1.4. ConclusionThe analysis above shows that the adjustmentof private sector debt imbalances is progressingbut it is far from complete. Deleveraging hastaken place so far mainly through negative creditflows, against the background of difficulteconomic conditions. Households and non-financial corporations continue to be highlyindebted and the deleveraging dynamics are likelyto prevail over the short-to-medium term as creditis contracting, house prices are still correcting andoverall economic activity is deteriorating. Bothhouseholds and non-financial corporations arehighly exposed to interest increases and incomeshocks.Private sector deleveraging has significantrepercussions on growth, financial stability and,via these two channels, on public finances.Deleveraging weighs on domestic demand andthus growth through negative wealth effects andconstrained consumption and investment. Theprocess is further exacerbated by deleveraging inthe financial sector and the necessary fiscalconsolidation, which prevents the governmentfrom implementing demand-management policiesto offset the adverse macroeconomic effects. Therecent easing of financial market conditions, ifmaintained and fed through the economic system,will support an orderly deleveraging process.Model simulations illustrate the importance ofmarket flexibility. (29) A fall in household debt-to-GDP ratio by 9 pps. over a six-year periodwould lead to a marked contraction in output by 5to 6 pps. due to a significant contraction in housinginvestment and consumption n. The high degree ofreal and nominal rigidities in the labour marketimplies a relatively contained fall in wages, whileunemployment increases significantly. In contrast,employment, investment and production would fallsignificantly less if labour and product marketswere more flexible. The results highlight thepotential of structural reforms in labour andproduct markets to alleviate the impact ofdeleveraging on the economy.Risks to financial stability have been mitigatedby the ongoing bank restructuring andrecapitalization programme. The recapitalizationof the Spanish banking sector under the financialassistance programme and the transfer ofproblematic assets to Sareb aim at ensuring thestability of the banking sector - even in case offurther defaults on real-estate development-relatedassets. Yet, bank asset quality will have to be keptunder close monitoring, also in view of highdeleveraging pressures.3.2. EXTERNAL DEBT SUSTAINABILITY ANDCURRENT ACCOUNT ADJUSTMENTThe current account deficit has fallen from10% of GDP in 2007 to 0.8% of GDP in 2012.Adding the capital account, the external deficit (30)was 0.2% of GDP in 2012, down from a peak of9.6% in 2007. This adjustment has contributed to(29) The simulations were run with DG ECFINs QUESTmodel.(30) The external balance (deficit or surplus) is defined as thesum up of the trade balance (goods and services), theincome balance and the capital account balance.-20-100102030405000 01 02 03 04 05 06 07 08 09 10 11 12y-o-y %Graph 3.10:Rate of change of credit to NFCTotal Construction Real estate activitiesSource: BdE
3. In-Depth Analysis of Selected Topics33the stabilisation of the NIIP in terms of GDP,although at a very high level.3.2.1. The net international investment positionNet external liabilities have stabilised since 2009at around 90% of GDP (see Graph 3.11). Thislevel has not significantly changed since the 2012IDR and it implies continued vulnerabilities (theMIP scoreboard threshold is 35%). Inevitably, theadjustment of the stock of net external liabilities isslower than the adjustment in terms of flows asmeasured by the external deficit. With stagnatingnominal GDP, interest payments and valuationeffects have become the main drivers of the NIIPratio (Graph 3.12). Even though valuation effectshave had a positive effect on NIIP since 2010, theestimated cumulative valuation effect since 2000 isstill negative, around -20% of GDP (EuropeanCommission (2012b)). Interest payments willcontinue to contribute negatively due to the highnet external liabilities, even though the implicityields on Spains external liabilities are slightlylower than those on external assets.Some of the risks associated with this very highexternal exposure materialised in 2012. The2012 IDR stressed that this large externalimbalance exposed Spain to potential externalfinancing problems (Graph 3.13a. In the course of2012, private external financing dried out and wasto an important extent offset by increasedEurosystem flows. Already in spring 2010 andsummer 2011 there were two episodes of privatecapital outflows, which could qualify as suddenstops. (31) In 2012, the magnitude of theseoutflows was much higher (Graph 3.13b).Consequently, borrowing from the Eurosystemrose from around 6% of GDP in spring 2010 to 8%of GDP in the summer of 2011 and 12% of GDP inthe second quarter of 2012. The Bank of SpainsNIIP moved from balance in the third quarter of2011 to a deficit of 30% of GDP in the secondquarter of 2012 (see Graph 3.11). This amountoffset the reduction of external financing for othersectors, mainly monetary and financial institutions(-21% of GDP), the Spanish government (-6.4%),and the non-financial private sector (-2.8%).Private external financing resumed in the secondhalf of 2012, following inter alia the ECBannouncement of the Outright MonetaryTransactions (OMT) and progress in addressingthe crisis at euro-area level and with reforms at thenational level.(31) Merler and Pisani-Ferry (2012).-120-100-80-60-40-2002005Q4 06Q4 07Q4 08Q4 09Q4 10Q4 11Q4% of GDPGraph 3.11:Sectoral breakdown of NIIPPrivate sectorMFI (excl central bank)General GovernmentCentral Bank (incl reserves)Net international investment position (NIIP)Source: Commission services (Eurostat)-20-15-10-505101506Q1 07Q1 08Q1 09Q1 10Q1 11Q1 12Q1Rateofchangey-o-y(%)Graph 3.12:Decomposition of rate of changeof NIIPValuation changesNet transaction effect (rest FA bal.)Investment income effectNominal growth effectChange in NIIP (y-o-y)Source: Commission services (Eurostat)
European CommissionMacroeconomic Imbalances - Spain 201334External gross debt is above 160% of GDP andthe share of short-term external debt issignificant. Although the bulk of Spanish externalliabilities is long-term (67% of total liabilitiesincluding direct investment), short-term debt isstill sizeable. In the third quarter of 2011, short-term debt (excluding borrowing from theEurosystem) was 45% of GDP. Even though itdecreased to 27% of GDP in 2012 (Q3 2012), thisfall was predominantly driven by the substitutionof private financing (in particular to financial andmonetary institutions) with monetary authoritiesfinancing (see Graph 3.14 and Graph 3.15).02040608010012014016018002 03 04 05 06 07 08 09 10 11 12% of GDPGraph 3.14:Maturity composition of externaldebtDirect investment Long-termShort-term excl. BdE BdESource: BdE, INE02040608010012014016018002 03 04 05 06 07 08 09 10 11 12% of GDPGraph 3.15:External debt by issuerDirect investment OFMIsBdE Public administrationsOther resident sectorsSource: BdE, INE-100-80-60-40-200202005 2006 2007 2008 2009 2010 2011 2012% of GDPGraph 3.13a:Asset breakdown of NIIPReserves assetsOther investmentFinancial derivativesPortfolio investmentDirect investmentInternational investment position-14-12-10-8-6-4-202462005 2006 2007 2008 2009 2010 2011 2012% of GDPGraph 3.13b:Quarterly variation in BdEsassets against EurosystemSource: Commission services (Eurostat)
3. In-Depth Analysis of Selected Topics353.2.2. External debt sustainabilityExternal debt will have to shrink significantlyin order to reduce financing risks and ensurelong-term sustainability. Even though there is noconsensus on what constitutes a safe orsustainable level of either the NIIP or grossexternal debt, available studies generally point tothe order of magnitude of around 50% of GDP(also depending on the composition of liabilitiesand other country specific factors (32)). This is alsothe level recorded in Spain in the mid-2000s,before the near doubling of the negative NIIP inthe second half of the 2000s. The current crisis hasprovided further evidence that large negative NIIPcan expose countries to severe financial shocksand is not compatible with a smooth long-termgrowth path.The reduction of external debt requires a shiftto recurrent external surpluses. There are fourmain channels through which the adjustment ofNIIP can take place: i) a shift of liabilities fromdebt to equity (while keeping the overall level ofNIIP unchanged it implies an improvedcomposition of the external position and areduction of the external debt, ii) higher nominalGDP (denominator effect), iii) positive valuationeffects, and iv) an external surplus. The firstchannel depends mainly on the decisions of privateforeign and domestic agents, who react to relativerisk-adjusted returns on assets. Given the subduedoutlook for nominal GDP growth, any significantcontribution from the denominator effect onreducing the NIIP is unlikely in the short-term. Asnoted above, interest payments will continue toadd to the debt burden, while the impact ofvaluation effects is difficult to predict. This leavesa sustained current account surplus as the mainpathway to achieve a reduction in net externalliabilities. (33)(32) European Commission (2012b).(33) Estimates of the required current account adjustment aresensitive to the target level set for the NIIP and toassumptions concerning in particular valuation effects,interest rates and GDP growth. For instance, with acautious set of assumptions, Goldman Sachs (2013)estimates that Spains current account needs to improve by10-15 pps. of GDP from the current (estimated) cyclically-adjusted level of about -5% of GDP in order to reduce theNIIP to -25% of GDP over a 20-year horizon.3.2.3. Progress in the adjustment of theexternal deficitThe adjustment of the external deficit hasaccelerated in the course of 2012. The externaldeficit fell to 0.2% of GDP in 2012, a reduction of3 pps. with respect to 2011 (see Graph 3.18a). Theevolution of the different components of theexternal deficit has been uneven. Overall, theimprovement in the current account balance hassurpassed expectations (see Graph 3.16 driven bythe trade balance, which turned into a surplus atthe end of 2012. The income and capital balanceshave been broadly stable. The rest of this sectionanalyses the evolution of the different componentsand the outlook.The high level of net external debt implies asignificant and persistent negative contributionof the income balance to the external account.The income balance deficit was on average 2.5%of GDP in the last years driven by interestpayments, the main component of propertyincomes (see Graph 3.18b). Current transfers havealso been negative, averaging 1% of GDP. Acertain reduction in current transfers is foreseeablein the future, as immigrant remittances (0.7% ofGDP) could fall given the high unemployment rateof immigrants. However, due to the high interestrate burden, no major shifts in the income balanceare expected in the short-term.The negative energy balance weighs on thetrade balance. Net external energy dependenceremains high and has been on an increasing path,-100-80-60-40-200202009 2010 2011 2012 2013bn EURDate of the forecastGraph 3.16:Evolution of forecasts of currentaccount balance2009 2010 2011 2012 2013Source: Consensus Forecasts
European CommissionMacroeconomic Imbalances - Spain 201336although with some correction in the last years (seeGraph 3.17a). Advances in domestic generation ofenergy, mainly renewable energy sources, have nottranslated into a substantial reduction of energyimports. The energy balance has contributed 3.6pps. of GDP to the external deficit (see Graph3.17b) in 2012, also as a result of an increase inenergy import prices by 10% on average.The capital balance has contributed positivelyto the total external deficit, in line withhistorical evidence. This contribution has beenrelatively stable in the last years, around ½% ofGDP (see Graph 3.18a). The future developmentof the capital balance will depend to a large extenton the financial flows from the EU (these flowsconstituted 70% of the overall balance in 2011),and as such it is mostly exogenous to the economicsituation.02040608010012014096 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 122005 = 100Graph 3.17a:Energy imports, volumes, 12-month moving average-10-8-6-4-2096 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12%ofGDP,movingyearGraph 3.17b:Goods trade balance: energy andnon-energy componentEnergy balance Non-energy balanceTotal balanceSource: Ministerio de Economía y Competitividad, INE-12-10-8-6-4-20205 06 07 08 09 10 11 12% of GDPGraph 3.18a:Trade, income and capitalaccount balancesCapital accountIncome balanceTrade and services balanceExternal deficit-5-4-3-2-10105 06 07 08 09 10 11 12% of GDPGraph 3.18b:Compositions of income balanceProperty incomes Current transfersOthers Income balanceSource: INE
3. In-Depth Analysis of Selected Topics318.104.22.168. Assessing the cyclical/non-cyclicalnature of trade balance adjustmentIt is challenging to assess the cyclical versusnon-cyclical nature of the on-going externaldeficit adjustment. Permanent adjustment maycome from (i) changes in the relationship ofexports and imports with their correspondingdeterminants (prices and demand) and/or (ii) frompermanent shifts in these determinants. In the caseof exports there is evidence of growingdiversification of destinations and productspecialisation (see also 2012 IDR), which wouldraise the sensitivity of Spanish exports to changesin world trade. On the import side, theresponsiveness to final demand would be reducedby a permanent rebalancing of demand towardsexports. As discussed below, the evidence is notconclusive about these changes.Top-down analyses based on the historicalrelationship between the current account andthe output gap suggest a still significant role ofcyclical factors in the external adjustment. Thisoverall conclusion is consistent with thepersistence of an external deficit so far in spite of agrowing output gap and soaringunemployment. (34) However, estimates of thecyclical versus non-cyclical factors in the externalbalance adjustment vary substantially. Forinstance, Deutsche Bank (2012), applyingestimated short-term coefficients to the cyclicalcomponent of determinants of exports and imports,concludes that the non-cyclical trade balanceimproved by around 2 pps. of GDP (2007-11)compared to a total reduction of around 6 pps. –i.e. around one third of the total adjustment wouldbe non-cyclical. Goldman Sachs (2013), based ona cyclical adjustment of current account balances,shows a non-cyclical improvement of around 5pps. out of an overall 7 pps. reduction.Commission services model estimates also pointto a small cyclical component. Overall, the widerange of estimates demonstrates the limitations ofthese approaches and the need to complementthem with more detailed analyses.The apparent improvement in costcompetitiveness is largely due to demand(34) According to IMF (2012c), in the presence of more flexibleproduct and labour markets, Spain could have moved to anexternal surplus already in 2011, compared to the observeddeficit of 3.2% of GDP.factors. As noted in Section 2, in the period 2007-2012 cost competitiveness has recovered a part ofthe cumulated losses between 2000 and 2007. Thepositive development in cost competitivenessresults from a sizeable increase in apparentproductivity and slower wage growth. Theseimprovements are tightly linked with labourshedding, partly reflecting the downsizing of theconstruction sector, and the slump in domesticdemand. To an extent, however, they also reflectefforts by companies to improve underlyingproductivity, some belated movement towardsrealigning wage dynamics with underlyingeconomic trends and shifts in the composition ofoutput away from construction-related activitieswith low productivity.A saving-investment perspective points to asizeable non-cyclical component in the externaladjustment. The reduction in the current accountdeficit over 2007-2011 was 6.3 pps. of GDP. Interms of the saving and investment counterparts,there were two main drivers (see Graph 3.19a). Onthe investment side, the downsizing of investmentin housing, 5.8 pps. of GDP in the period 2007-11,is unlikely to be reversed fully in the coming years,and in fact, as noted in Section 2, it has not endedyet. However, in the same period the saving rate(as a percentage of GDP) fell by 3.1 pps. and partof this reduction may also be of a permanentnature, which would reduce the net permanentadjustment of external deficit.22.214.171.124. The role of exports in the adjustment ofthe external trade balanceExports have driven a large part of the tradebalance adjustment but volume data show thatthe fall of import volumes has been more rapidthan shown by nominal data. The trade balanceadjusted from a deficit of 5.8% of GDP in 2008 toa surplus of 1% of GDP in 2012 (6.8 pps.adjustment, see Graph 3.19b). This sharpadjustment was predominantly driven by theincrease of the share of total exports in GDP(around 80% of the overall adjustment) and, to alesser extent, by the reduction of the share of totalimports in GDP (the remaining 20%). However,these shares are significantly influenced bydifferent behaviour of export and import prices. Inreal terms, exports grew by 11% between 2008 and2012, while imports fell by 15%.
European CommissionMacroeconomic Imbalances - Spain 201338The resilience of Spanish exports is manifest ina relatively modest loss in export market sharescompared to other European countries. Asoutlined in the 2012 IDR, between 1996 and 2011,Spanish exports of goods and services expandedonly slightly below the trend for world exports,with the total Spanish export market sharedecreasing from 2.2% to 2.0%. This relativelygood performance of exports was driven by bothexports of goods and services. While services havebeen less dynamic than goods in the period 2010-11 (see Graph 3.20a), they surpassed the growthrate of exports of goods in 2012, predominantlydriven by non-tourism services (more thancompensating for the deceleration of tourismservices). The rise in non-tourism services exportscan be related to the increase in direct investmentabroad by Spanish firms during the expansionperiod, and as such is expected to persist in thecoming years.The relatively good historical performance ofexport market shares does not match with theevolution of price competitiveness. As shown inSection 2, the REER deflated by consumer pricesappreciated by 20% in the period 2000-08 and hassince adjusted by around 7%. This combinedevidence of good performance with respect toworld market shares and significant losses in termsof price competitiveness has fuelled a debate aboutthis apparent Spanish paradox. The two mainfactors which may explain the relative resilience ofSpanish exports despite competitiveness losses arethe duality of the Spanish economy and otherfactors related to non-price competitiveness. (35)The expansion of exports of goods during thecrisis has been supported by some strongunderlying fundamentals:• Increasing geographical diversification (seeGraph 3.20b). The share of non-EU-27countries in Spanish merchandise exportsincreased from 27% in 2000 to 30% in 2009and 33% in 2011, according to Eurostats data.Exports to emerging markets have registeredvery dynamic growth, especially to LatinAmerica, North Africa and some Asianemerging markets. This has broadened thetraditional export base of the Spanish economy.• Growing diversification of exports byproducts. On some measures, the Spanishexport sector is one of the most diversified bothin terms of products and client countries. (36)Furthermore, the weight of more complexsectors in Spanish exports is above the worldaverage. These characteristics allow Spanishexports to achieve an international advantage interms of product diversification. (37)• Going forward, it will be crucial to continuestrengthening both price and non-price(35) See Cardoso et al. (2012).(36) Hausmann et al. (2011).(37) Correa-López and Doménech (2012).0510152025303595 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11% of GDPGraph 3.19a:Saving and investment ratesSaving rate Investment in constructionTotal investment-40-30-20-1001020304000 01 02 03 04 05 06 07 08 09 10 11 12% of GDPGraph 3.19b:Total exports and imports(current prices)Exports Imports Trade balanceSource: INE
3. In-Depth Analysis of Selected Topics39competitiveness. The implementation of thereform agenda should increase the relativeattractiveness of tradable activities by reducingrents in sheltered sectors, facilitate thereallocation of resources, reinforce the linkbetween wages and economic and firmconditions and remove obstacles to firmsgrowth (see Box 3.1).-20-15-10-5051015202500 01 02 03 04 05 06 07 08 09 10 11 12%Graph 3.20a:Exports of goods and services, y-o-y growth (12-month moving average)Goods ServicesNon-tourism services Tourism services-25-20-15-10-505101520253000 01 02 03 04 05 06 07 08 09 10 11 12%Graph 3.20b:Exports of goods by destination,contribution to y-o-y growthEuro area Rest of EU27 Non-EUSource: INE (a) and Ministerio de Economía y Competitividad(b)