On April 25, the Spanish National Institute for Statistics (INE) made a disconcerting yet unsurprising announcement as it released the latest unemployment statistics in Spain. The unemployment rate is now at an all-time high with 27.16% of the labor force, more than 6 million Spaniards. Most affected are young people below the age of 25 with 55.7% of them being unemployed. Even more alarming is the duration of unemployment. According to Eurostat, the rate of long-term unemployment, more than 12 months according to the OECD, was at 11% of the Spanish labor force in 2012, second only to Greece (14.4%).
The following day, Brussels approved Madrid's plan to delay the budget deficit reduction by two years in order to ease unprecedented austerity measures that were prompted by a sharp economic slowdown since 2007. The initial budget deficit target set by Brussels was 4.5% in 2013, which is still above the EU limit of 3%.
Annual GDP growth (%, 2003-2011)
Source: The World Bank Indicators. Data last viewed on April 27, 2013.
It was expected that Spain's staggering unemployment rate, the contraction of its GDP by 1.8% in 2012 and the massive popular protests against the austerity measures would lead Brussels to accept Madrid's plan to delay the reduction of the budget deficit. It is still hard to understand how Spain is supposed to bring the deficit from 10.6% down to 4.5% by 2016, but at least, this softer target will ease political tensions in Spain and within the EU.
Spain's Prime Minister Rajoy can use this compromise with Brussels as leverage with the Spanish autonomous regions, especially Catalonia. Indeed, Catalonia used pressure from Madrid to cut its deficit by €4.8 billion ($ 6.3 billion) as a reason to re-affirm its independence claims. Now that the EU granted Spain a softer public deficit target, Madrid will, as announced, pass it on to the autonomous regions. For Rajoy, that could mean weakening the independence claims in Catalonia by exploiting the political divisions among its ruling political coalition. Indeed, since September 2012 Catalonian parliamentary elections, the winning party Convergence and Union (center-right) was forced to form a coalition with the Republican Left, who also happens to be the main sponsor for Catalonian independence. On the contrary, Convergence and Union considers Catalonia as a nation within Spain.
Yet, Madrid must implement a new financing system for its autonomous regions, whereby they keep a greater share of collected taxes. While such measure will appease independence claims, it will also reduce Madrid's fiscal resources and consequently reduce its control over the regions.
On a European level, the compromise with Madrid to ease the budget deficit will help soothe the tensions among member states created by the Cypriot bailout. Indeed, too much rigidity from Brussels towards ailing countries could deepen the already strong divisions within the Union. Brussels knows that if Spain is pushed too far, it could experience the same political crisis as Greece and Italy, that is, anti-establishment and anti-EU parties such as New Democracy and the Five-Star Movement.
Nevertheless, on a longer term, any concession made by Brussels to one member state will almost certainly encourage other countries to ask for similar compromise. Of course, this comes at the cost of weakening Germany's austerity approach.
For both Madrid and Brussels, the medium to long-run difficulties that will trigger a softer budget deficit target will outweigh its short-term benefits.