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Spain Politics October 2019

Spain: Election unlikely to break political gridlock; risks to economic outlook mount

Spain’s political stalemate drags on with a repeat general election to be held on 10 November, the fourth in four years. The center-left Spanish Socialist Workers’ Party (PSOE, Partido Socialista Obrero Español) won the last election in April, but fell short of reaching a parliamentary majority and were unable to seal a viable power-sharing arrangement. Based on current polling, the election outcome looks unlikely to radically change from April’s result, thus yielding a fragmented Parliament yet again. However, the formation of a government may be complicated even further by increased political polarization fueled by the tough sentences passed on 14 October by the Supreme Court against Catalan separatist leaders over their role in the October 2017 independence referendum. For years, the economy has largely shrugged off political gridlock, but risks to the outlook seem now to have risen in light of a weaker economic backdrop and heightened political instability, constraining the enactment of structural reforms needed to raise potential growth.

While recent polls show that the PSOE is set to win the largest share of seats, the lead over the conservative People’s Party (PP, Partido Popular) has been narrowing. At present, it seems PSOE will come out on top but once again lack an absolute majority and thus need support to govern. The formation of a government will likely again prove challenging and several options are on the table. These include a left-leaning government between PSOE and United We Can (UP, Unidas Podemos) assuming they are able to resolve their differences this time around and reach an agreement; a partnership between PSOE and center-right Citizens (Cs, Ciudadanos); or a right-wing bloc comprised by Cs, PP and far-right Vox. However, these party configurations are expected to still fall short of an absolute majority, which means they would have to join with or receive support from smaller parties, making them fragile alliances. Outside of this, the only viable option at present for a two-party government would be an unprecedented coalition between traditional foes PSOE and PP. In light of this fractured political landscape, the possibility of a third election is also not off the table.

Meanwhile, the elevated political uncertainty comes against the backdrop of a weaker-than-expected economic performance as a result of the recent downward revision of GDP data starting 2016. Spain’s economy still remains the top performer among its major Eurozone peers but signs of weakness have emerged. The vital tourism industry—a major source of jobs and output—is slowing; manufacturing activity remains subdued; and employment growth is losing momentum. And although domestic demand, and in particular household consumption, remains healthy, questions have emerged over how long this trend can be sustained. Further complicating matters is a more challenging external backdrop, in which a faltering German economy, softening Eurozone demand, Brexit-related uncertainties and the U.S.-China trade war could weigh on exports and investment.

On 15 October, the acting government, led by PSOE head Pedro Sánchez, unveiled its 2020 draft budget that trimmed its growth forecast for next year and raised the budget deficit estimate from 1.1% of GDP to 1.7% of GDP. The higher budget deficit mainly reflects the current state of political paralysis which has prevented the adoption of planned revenue generating measures. In addition, beyond a slight increase in spending for pensions and public workers’ salaries, the 2020 draft budget is devoid of any significant measures that could stimulate growth or shore up the economy’s resilience to negative shocks, but could be revised if or when a new government is formed. Recently, Spain’s budget has simply rolled from one year to the next as minority or caretaker governments were unable to secure backing for new legislation.

All told, the upcoming election is unlikely to break the long-standing political deadlock, pointing to increased political instability and uncertainty going forward, thus hindering the implementation of necessary reforms. This, combined with mounting domestic and external headwinds, could start to weigh on the economy’s outlook and eat into its so-far healthy pace of growth. FocusEconomics Consensus Forecast panelists project that GDP will expand 1.7% in 2020, which is down 0.1 percentage points from last month’s forecast, and 1.7% again in 2021. Meanwhile, FocusEconomics Consensus Forecast panelists expect a fiscal deficit of 1.9% of GDP in 2020 and of 1.8% of GDP in 2021

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