A question of confidence

Investors demand of the government not only cutbacks, but also expectations of recovery

The indicators of the Spanish economy are showing alarming signs of stress, which cannot be brushed off with the shopworn phrase "things have to get worse before they get better." On Monday the risk premium was up again to 437 points, as the yield on the benchmark 10-year bond crept above the six-percent level that sets off bailout alarm bells. The Ibex 35 stock-market index plunged again, to a level lower than during the darkest moments of the financial crisis in 2009, a drop due mainly to lack of confidence in the banks. The government's financial reform has been unconvincing. The Bankia savings bank merger is still an unknown quantity, and real estate must be segregated from the balances if credit is to be made available to companies once more. Besides, the alarms about a long recession are being confirmed. The Bank of Spain warned that during the first quarter GDP contracted by 0.4 percent. The forecasts point to more unemployment (up to 24 percent this year) and greater market pressure against Spanish solvency.

With an economic situation that is worsening before our eyes, the government must ask whether it is necessary to turn to new economic policy options. The deficit objectives are an acquired commitment; expenditure must be rationalized and regional governments bound to rigid fiscal discipline. But the present economic policy, based only on continual public-spending cutbacks, is attacking essential features of well-being (health and education), while from investors the state gets nothing in return in terms of improved budgetary conditions. On the contrary, what is becoming apparent is an intensive withdrawal of foreign investment.

The policy of drastic adjustment is not bringing confidence back to the markets; and indecision in bank restructuring seems to point to further failure. Possibly the lack of confidence has to do with the impossibility of reducing the deficit by more than three percentage points of GDP in a year of recession; or with investors' wariness of health and education cutbacks quite devoid of data and analyses of opportunity costs, which makes them mere amputations of essential services. But two other pernicious messages are at work. The first is the government's doggedly depressive rhetoric, bent on accentuating the gloom of the situation and the obligation, under pain of bankruptcy, of following the cutback policy to the letter.

The second and major factor is that investor confidence stems not only from meeting deficit objectives. What the markets buy is stability plus growth; in other words, adjustments amid the expectation of economic improvement. The government has to offer a strategy for growth. Thinking of the cutbacks as reforms that will create employment is short-sighted. If EU orthodoxy is the problem, it is there where funding for reactivation must be negotiated. And in the contrary case, consideration must be given to just what fiscal margin the government has at its disposal for stimulating employment. This is the real question of confidence.

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