New Spanish government faces gradual growth slowdown
After several months of political uncertainty, Pedro Sánchez of the Socialist Party won a confidence vote on 7 January that confirmed him as Spanish prime minister. He will govern in coalition with the left-populist group, Unidas Podemos. This will be Spain’s first national coalition government since the country’s return to democracy in the late 1970s.
Given the arithmetic in the Congress of Deputies, it will not be easy for the new left-leaning coalition to govern. The atmosphere in the Congress of Deputies was highly charged during the confidence vote and is likely to remain so. The new PSOE-Unidas Podemos administration holds 155 seats in the 350-strong house and will require support from 21 other deputies in order to pass planned reforms.
The first tests the new government will face are gaining approval for a new budget and opening negotiations with the ERC to quell the long-simmering crisis in Catalonia. The new coalition government has agreed on a number of policy initiatives that will impact the Spanish economy, including increased taxes on high net worth individuals (HNW) and large corporates, more worker protection and a higher minimum wage.
Spain has outperformed the euro area average in terms of GDP growth for the past five years despite a protracted period of political uncertainty. Short term, the macroeconomic backdrop remains supportive thanks to solid domestic demand and loose financing conditions. Reduced political uncertainty should provide a further boost.
In the medium term, however, some of the new government’s proposed measures (notably the partial repeal of labour market reform) could undermine firms’ competitiveness. The comparative absence of structural reforms in the government programme could curb Spain’s growth potential, crucial for debt dynamics. In any case, the highly fragmented political landscape means that implementing any of the structural reforms needed to solve the structural issues that Spain faces will be complicated.
Short term, the macroeconomic backdrop remains supportive thanks to solid domestic demand and loose financing conditions. We expect growth to slow gradually from a very strong pace, moving closer to the euro area average. We project GDP growth of 1.7% in 2020, following an estimated 2.0% in 2019. But risks are tilted to the downside and a lot will depend on the new government’s ability to implement its economic policies.