Spain on the brink of a full-blown crisis

Spain on the brink of a full-blown crisis

The Catalonia crisis has taken on an unstoppable momentum and revealed just how fragile the European institutional order really is

By Ambrose Evans-Pritchard

Published: 17:52 October 25, 2017

Gulf News


The escalating constitutional crisis in Spain poses a direct threat to the country’s fragile economic recovery, stoking worries that Madrid may ultimately need a financial rescue from the European Union (EU). Calls for “massive civil disobedience” from Catalan nationalists and menacing noises from the Basque Country are the latest danger signs in a high-stakes drama where Madrid seems to be stumbling into a minefield.

“This has the potential to turn into a full-blown political crisis for the whole country. We think the current minority government may be heading towards disintegration.” said Raj Badiani, a veteran Spain strategist at financial services company IHS Markit. “I am surprised that 10-year Spanish bond yield have not yet spiked. In a worst-case scenario, where Spain faces a deep recession and can’t roll over its debt at an affordable rate, it may need to apply for an EU bail-out,” Badiani said. He warned of a slow deterioration coming to a head over five years.

Foreign investors remain insouciant so far even though Spanish Prime Minister Mariano Rajoy said the crisis is having “an extremely grave impact” on both the Catalan and Spanish economies. Risk spreads on Spanish bonds have barely moved. Spain’s fiscal authority (AIReF) has slashed its forecast, warning that growth may be halved to 1.5 per cent in 2018 with a mounting risk of recession in Catalonia. The worry is that events could spin out of control when Rajoy activates Article 155 of the Spanish Constitution tomorrow and imposes direct rule on the breakaway region. “This is going to get a lot uglier. In our view, Spanish political risk is seriously underpriced,” said Nicholas Spiro, a bond strategist at Lauressa Advisory. Rajoy hopes that fresh elections in Catalonia will destroy the power base of the separatists. Critics say it is hard to see how a vote could have any credibility if Madrid shuts down the Catalan television channel TV3 and emasculates the Catalan parliament. Antonia Montilla from Citibank says the gambit could lead to extreme clashes. “It is clear, in our view, that Madrid’s hard line is likely to result in an increase in support for pro-independence forces,” he said.

Rajoy’s government is hanging by a thread. He needs Basque support order to pass the budget. The bill has already been delayed. The Basque leader Inigo Urkulu has since said the Catalan crackdown “dynamites the bridges” and may spell the end of any cooperation. The Basque mood is highly defiant. Its police force has backed Catalan comrades, denouncing the arrest of the Catalan police leader for sedition as an unjustified abuse of state power.

The great unknown is what will happen if Spain’s Guardia Civil tries to remove Catalonia’s leaders by force. The hard-Left CUP party in Barcelona has called for massive resistance, describing recent events as the worst abuse of civil liberties since Franco.

Spain has been the poster-child of Eurozone austerity policies, the one country in southern Europe that pulled off an “internal devaluation” and clawed back competitiveness by squeezing wages. Yet, output has only just regained its former level a decade later. Unemployment is still 17.1 per cent. Public debt has jumped to 99 per cent of gross domestic product.

‘Project Fear’

So far, only Catalonia has been punished by the markets. More than 1,300 companies have moved their headquarters out of the region, including Catalonia’s two historic banks Caixabank and Sabadell. The exodus has been encouraged by Madrid, which rushed through a change in company law to make it easier. Catalan banks were reportedly losing 4 billion euros (Dh17.27 billion) a day in deposit flight at one point. Cercle Catala, a pro-independence business federation, said Spain’s authorities and their media allies are whipping up a ‘Project Fear’. “The flight of companies is not what it seems,” said the group’s president, Alberto Pont. “We are encouraging companies to establish a legal residence in the rest of Spain to protect themselves. The banks have to do this to maintain access to ECB liquidity. This does not mean that a single job is going to leave Catalonia,” he told the Daily Telegraph.

Madrid blames the Catalan nationalists for setting off a disastrous chain of events by calling an illegal referendum. The Catalans retort that the Partido Popular — with roots in the Franco era — has never really accepted the devolution settlement dating from 1978.

Whatever the rights and wrongs, the crisis has taken on an unstoppable momentum and shown is how just fragile the European institutional order really is. Brussels seems dazed and unable to respond. Atavistic forces are coming to the surface, exposing a deeper Spain that was always just beneath the surface but disguised in good times by the EU veneer.

— The Telegraph Group Limited, London 2017

Ambrose Evans-Pritchard is international business editor of the Daily Telegraph. He has covered world politics and economics for 30 years, based in Europe, the US, and Latin America.