Spain reforms tick boxes but no remedy for slump

By Paul Day

MADRID (Reuters) - Spain has worked hard to tick all the reform boxes demanded by its European partners but economists doubt an updated programme due April 26 will be ambitious enough to counter a deep recession.

In his first year in power, Prime Minister Mariano Rajoy attempted to tackle a 26 percent unemployment rate, sky-high private and public debt and a battered banking sector. But his measures were cautious in the face of a crisis-weary public.

The pressure on Spain has eased since a European Central Bank pledge last summer to do whatever it takes to backstop troubled euro zone economies helped cut Madrid's funding costs to more sustainable levels.

Moreover, growing social resistance to budget cuts and structural reforms, as a 2015 general election starts to cast a shadow, means Rajoy is no more likely now to implement the tough policies needed to restart the economy.

That would require wider-reaching labour market reform, a fresh overhaul of the financial sector, complete restructuring of an inefficient public administrations system and welfare state and a shake-up of the tax system.

"Failure to pass structural reforms and develop a credible strategy to deliver fiscal adjustment could put Spain's debt on an unsustainable path," said Ruben Segura-Cayuela, an economist at Merrill Lynch and former economic adviser to Jose Luis Rodriguez Zapatero's centre-left government.

"I see political will to keep Brussels happy and tick boxes, but that doesn't mean they're taking the reforms as far as needed," he said.

Spain's large funding needs even prompted Merrill Lynch to warn Madrid may need to make a bailout request by the end of the year in the face of a potential ratings downgrade and what it called government inaction and complacency.

Rajoy has signalled the updated reform plan - to be presented to Brussels - will focus on steps to boost growth, such as credit and tax breaks for small companies, and return to unfinished reforms of the energy sector and pension system.

Much of it is expected to be a rehash of structural measures promised last year which were delayed while the government focused on emergency budgetary announcements aimed at soothing investor nerves at the height of the euro zone debt crisis.

The need to cut the public deficit by at least another 40 billion euros mean temporary tax hikes and wage cuts will have to be made permanent, despite government claims to the contrary.

Other measures - focused on pensions, the electricity sector, an independent fiscal authority, minor changes to the tax system and a reform of how the state is run at a national and local level - are likely to fall short of restarting an economy deep in recession or putting its 6 million unemployed back to work.

Analysts don't believe Rajoy will surprise on the upside as he starts courting voters whose anger at welfare cuts has been deepened by corruption scandals engulfing the ruling party.

"The conservatives have something very rare and very precious, which is an absolute majority. They can do anything they want," said Javier Diaz-Gimenez, economist at Madrid business school IESE. "But Rajoy ... just wants to scrape through."


If the latest plans are likely to be modest, there is also doubt that they will be delivered.

Of about 90 measures in last year's reform plan, many are still not enacted, with most of them stuck in lengthy parliament proceedings and others not even approved by the cabinet.

One of Rajoy's most lauded moves has been the labour market overhaul passed early last year and aimed to cut prohibitively high lay-off costs and make it easier for companies to negotiate wage terms.

It has been received as a step in the right direction by international companies with six of the 11 foreign carmakers present in Spain announcing new expansions and investments in recent months.

But there are misgivings. One executive at Roca, a global bathroom and tile company, said while the reform was supposed to streamline layoffs during a downturn, myriad obstacles remained and his company had yet to see benefits from the new law.

Concerns have also arisen over Rajoy's overhaul of the banking sector, including a 41-billion-euro aid package last year, which concentrated on fixing damages from toxic real estate assets but may now not be enough as consumer loans start to sour.


Brussels meanwhile is eager for a new law which allows the government to penalise overspending regions more harshly. Valencia's and Murcia's deficits last year were more than double the target and neither have faced disciplinary action from Madrid.

Another pressing change will be to the pension sector. The government has already passed steps to make early retirement more difficult but has repeatedly delayed a wider reform aimed at making the public pension system more sustainable after more than 3 million unemployed Spaniards stopped contributing to it.

Sources have told Reuters that, under EU pressure, the Spanish authorities would now likely speed up a phased increase in the retirement age but this is a highly sensitive subject for a large number of the conservatives' voter base.

Reforming Spanish bureaucracy and a bloated welfare state has also been a major target for the government, but it is a monumental task which despite only being addressed with piecemeal steps has sparked protests all over the country.

Liberalisation of the energy, telecommunications and transport sectors has been impeded by demands for amendments from industrial lobbyists.

"The government is concerned with the (electricity) tariff deficit but not on making the market work properly, which would be the right approach," said Gerard Llobet, economist at Madrid business school CEMFI.

Although Brussels usually publicly praises Spain for its reform drive, it has now called on Madrid to take urgent steps to tackle high domestic and external debt levels which it said posed serious risks for growth and financial stability.

More than a third of the euro zone's 17 million unemployed are in Spain and its highly indebted private sector will take years to pay back what it owes, paralysing investment and suffocating demand.

Meanwhile the banks, reeling from the fallout of years of bad loans which came to light after a decade-long property bubble burst in 2008, are reluctant to lend even to the few businesses and consumers prepared to take on more debt.

"Spain faces U.S. Great Depression-level unemployment and an abysmal economic outlook, imposing serious hardship on the Spanish public. Spain may still have another year or two in purgatory before the economy has hope of returning to normal," said Bill Adams, economist at U.S. bank PNC.

(Additional reporting by Tracy Rucinski. Editing by Julien Toyer/Mike Peacock)