Thursday, June 7, 2012

The Spanish Euro sunset

The sun sets behind one of Ibiza's many abandoned property developments.
Take a trip to Ibiza this summer and you would hardly know that Spain is in the grip of the worst socio-economic crisis since democracy returned to the country in 1975. The beaches are crowded, the Superclubs are open and still charging €40 or €50 just to get in and €10 just for a 275ml bottle of partially refrigerated beer once you're inside. The signs are there, but the casual holiday maker is unlikely to notice that dozens of partially constructed property developments around the island haven't progressed in the last year, or even since the Spanish property bubble burst in 2008.

People travel to Ibiza to relax and have a good time, they don't go to the most famously hedonistic island in Europe to assess the state of the economy or consider what the implications for the European single currency might be, should the entire Spanish banking sector submerge into the ocean of debt they created for themselves during the boom years.

The recently elected right-wing Spanish government are playing an unprecedented game of Euro brinkmanship in the desperate hope that the unelected technocrats at the European Central Bank and European Commission decide to treat Spain as a different case to other struggling Eurozone economies such as Ireland, Greece and Portugal, who were forced to accept harsh austerity measures in return for bailouts to help them avoid defaulting on their external debts.

Mariano Rajoy's Popular Party have already inflicted €27 billion in self inflicted austerity measures and drastically undermined Spanish labour laws in the hope that by inflicting voluntary austerity measures they might avoid the national humiliation of accepting bailouts and externally imposed austerity drawn up by the ECB and the IMF and might receive preferential treatment in the form of direct intervention to prevent the imminent collapse of the entire Spanish banking sector.

Adopting a different approach for Spain is likely to infuriate the populations of the three smaller Eurozone countries that have had to eat the EU "shit pie" of a vast bill to cover the cost of bailouts that flow straight back out of the country to their French, German and British financial sector creditors and the socio-economic chaos of brutal externally imposed and self defeating austerity measures. Watching Spain get preferential treatment when they themselves have already been made to suffer enormously, would almost certainly cause a dramatic rise in anti-EU sentiments in the three "periphery" states.

Even nine months ago talk of a potential Greek exit was being scorned as inconceivable scaremongering, in recent weeks high profile politicians have made calls for Greece and the Eurozone to "make up or break up" and financial experts have gone as far as calculating the potential economic damage of a Greek exit at €1 trillion. Now there is talk of a Spanish exit too. If the European authorities are unprepared to modify their bailouts and austerity prescription in Spain's case and the Spanish government are too proud to accept the same brutal treatment as Ireland, Greece and Portugal an exit looks like the only remaining option.

In the Spanish case, the Euro-technocrats will struggle to stick with the same strategy of inflicting another self-defeating cycle of austerity and bailouts because the stakes are much higher with Spain than with the previous three, meaning that Spain has a much stronger bargaining position. The Eurozone could conceivably take the exit and default of Greece, which represents only 2.65% of the Eurozone economy. The scale of the economic damage has been estimated at almost three times the size of the Greek economy, but surviving an 8% of Eurozone GDP (€1 trillion) hit seems conceivable. Irealnd and Portugal are even smaller, accounting for less than 4% of Eurozone GDP between them. Spain on the other hand is the fourth largest economy in the Eurozone accounting for over 8.4% of Eurozone GDP and using the Greek exit damage estimate as a rule of thumb (3x national GDP in economic chaos), a Spanish exit could end up creating up to 25.3% of European GDP (€3,151 trillion) in economic fallout.

The Eurozone would undoubtedly suffer enormously from a Spanish exit, however after a year or two of intensified economic chaos it is possible that Spain could actually emerge in a much healthier state following an exit and default. A return to the Peseta would allow Spain to devalue their currency providing some blessed relief for the struggling Spanish manufacturing sector, create employment, dramatically slow down the flow of capital out of the country and also create a much stronger incentive for holiday makers to choose Spanish destinations like Ibiza for their holidays.

It seems certain that mainland Spain would soon begin to experience a manufacturing boom as the Spanish exports become much cheaper in comparison to produce from countries still locked into the Euro and tourist destinations like Ibiza would benefit from a large tourism boom as visitors find their money goes much further than in Eurozone destinations. Both of these factors would create extra employment and increase aggregate demand, putting Spain on the road to recovery.

The problem for the Spanish government is that whatever happens someone is going to have to lose face. If Spain accepts the same kind of austerity and bailouts "shit pie" the previous three have been forced to eat, it will be a massive national humiliation, if the ECB back down and intervene directly to prevent the Spanish banking sector collapse, they will look like a bunch of malicious thugs that lost their vindictive streak when the stakes got too high and if neither side are prepared to lose face in the short term, they will both lose face as the Spanish are forced out of the Euro and the Euro technocrats are forced to watch the disintegration of their beloved Single European Currency project.

If Spain does bail out of the Euro, I don't suppose the hedonists holidaying in Ibiza would notice anything but the change in currency. The sun will still be blazing down, the beaches will still be packed and the superclubs will still be brazenly ripping off their customers with eye watering markups on their beer, just like the European financial sector will still be lending on their ultra-low interest ECB "giveaway loans" to create mind boggling profit margins at the expense of the "real economy".

 
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