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Economy

Nov 21, 2011

Maley: the market's Spanish inquisition

The new Spanish government of Mariano Rajoy faces a test of fire this week, as investors query whether the country will be able to protect itself from being engulfed by the raging eurozone debt crisis.

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The new Spanish government of Mariano Rajoy faces a test of fire this week, as investors query whether the country will be able to protect itself from being engulfed by the raging eurozone debt crisis.

Yesterday, the crisis claimed a fresh political victim, with Spain’s ruling Socialist Party suffering a crushing defeat at general elections. According to exit polls, the centre-right Popular Party, led by Rajoy, picked up 43.5% of the vote, while the Socialists saw their vote slump to 30%. This suggests the PP will command an absolute majority in the new Parliament and will not need to rely on the backing of small regional parties to push through harsh austerity measures.

The Spanish election result is the latest change of government in the eurozone, following those in Ireland, Portugal, Greece and Italy. Indeed, during the two-week Spanish election campaign, Silvio Berlusconi and George Papandreou were pushed out of office in Italy and Greece, to be replaced by two technocrats.

But while financial markets were largely expecting Rajoy’s victory, they have been rattled by his refusal to spell out the details of his plans to cut the country’s gaping budget deficit and introduce major economic reforms.

Throughout the election campaign, Rajoy refused to outline his new reform measures, or even to nominate who would become the country’s new finance minister. Instead, he limited himself to generalities, promising to create jobs, and to manage the economy well. “We’ll make reforms demanded by commonsense,” he replied when pushed.

Of course, Rajoy’s coyness about outlining his policies reflected a natural reluctance to say more than necessary for fear of frightening voters with the grim prospect of government spending cuts and tax hikes. Rajoy was deeply aware that his commanding lead in the opinion polls reflected widespread disillusion with the ruling Socialist government, rather than support for him or his party’s policies. He appeared anxious to get to Sunday’s vote without making a mistake that would erode his commanding majority, even going so far as to read extensively from notes during a televised debate with his Socialist opponent, Alfredo Pérez Rubalcaba.

But while this tactic worked with voters, it worried investors. Last week, Spanish bond yields climbed dangerously close to the 7% level, which the Spanish media has dubbed the “zona de rescate” or bailout zone. Greece, Portugal and Ireland were all forced to seek bailouts when their interest rates hit 7%.

Investors are worried that the Spanish economy is still suffering the aftermath of a collapsed property bubble, and that many of its banks are papering over their problems. At the same time, the country is grappling with a budget deficit that hit 9.2% of GDP last year, while around one in five Spanish workers are unemployed.

In a radio interview on Friday, Rajoy urged markets to “realise that there are elections and that the winners must be given a little room for manoeuvre that should last more than half an hour”.

But when financial markets open in Europe later today, investors will be pressing Rajoy to outline his plans for shrinking Spain’s budget deficit, without plunging the country into recession and worsening the country’s already dire jobs situation.

*This article first appeared on Business Spectator

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