Spain: Time to Strengthen Resilience, Promote Inclusive Growth

IMF News, November 21, 2018

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The difficult structural reforms Spain undertook in response to the global financial crisis continue to bear fruit.
The economic recovery is maturing and new risks are clouding the medium-term outlook, according to the IMF’s latest economic health check of the country.
Andrea Schaechter, the IMF’s mission chief for Spain, emphasizes the urgency of making the economy more resilient and inclusive to better withstand future shocks.

Real GDP growth is projected to moderate to 2.5 percent in 2018 and 2.2 percent in 2019—still above the euro area average.
Beyond 2019, real GDP growth is projected to gradually slow to its long-term rate—estimated at around 1.75 percent.
These projections reflect both a less supportive external environment and weakening domestic demand.
Sluggish productivity growth, high structural unemployment, and an aging population weigh on the medium-term prospects.

Public debt has come down only marginally from its peak in 2014 and is still close to 100 percent of GDP—nearly three times as high as it was at the onset of the global financial crisis.
With public debt at such a risky level, Spain would probably be forced to cut spending or increase taxes when its economy is hit by future shocks.
Recommendation: Reduce public debt faster today while economic activity is robust to create space and resources for stabilization when needed.

Spain’s population is aging and the pressure on the pension system is increasing.
The 2011 and 2013 pension reforms addressed financial pressure by reducing the purchasing power of pensions while ensuring Spanish pensioners continue to receive higher pensions—relative to wages—than most other EU countries.
The acceptability of those reforms has been questioned by the public.
Outlook and recommendation: Further adjustments to the pension system will be needed. A transparent, holistic, and fair solution is important, but it will be very difficult to entirely avoid a reduction in real pension benefits in the future, unless there are fundamental changes to pension contributions and the labor market.

Findings:

Unemployment rate fell to 14.6 percent—below its long-term average.
Spain’s youth unemployment rate, the share of temporary contracts, and involuntary part-time employment remain among the highest in the European Union.
Labor market duality persists with a pervasive split between secure full-time workers and those on short, fixed-term contracts.
The widespread use of fixed-term contracts lowers investment in training, weakens productivity, aggravates employment volatility, and increases inequality.

Causes:

Large difference in the cost of hiring workers on fixed-term contracts compared to employees on open-ended contracts, including severance payments and legal and other costs.

Policy recommendations:

Reduce the gap in hiring costs between fixed-term and open-ended contracts to make open-ended hiring more attractive.
Continue efforts to tackle the abuse of fixed-term contracts, recognizing that this alone is unlikely to be enough.
Implement more coordinated and better-designed active labor market policies to help low-skilled youth and the long-term unemployed return to work.

Spain spends less on research and development (R&D) than European peers, despite several R&D incentives.
The predominance of small and medium-sized enterprises acts as a break on innovation and productivity growth.

Policy recommendations:

Launch a new, broad-based structural reform initiative to upgrade medium-term growth prospects and allow Spanish incomes to continue catching up to richer EU countries.
Focus on fostering innovation and increasing R&D investment by the state and the private sector.
Reduce the high school drop-out rate and improve education outcomes to upgrade skills and help youth stay competitive.
Dismantle barriers for firms to grow and strengthen the business environment to overcome constraints from the predominance of small and medium-sized enterprises.

Real GDP growth: 2.5 percent in 2018; 2.2 percent in 2019; gradually slowing to around 1.75 percent beyond 2019.
Unemployment rate: 14.6 percent.
Public debt: still close to 100 percent of GDP; nearly three times the level at the onset of the global financial crisis.
Reference to pension reforms: 2011 and 2013 reforms.

International Monetary Fund