Dispatches from Spain: How does a socialist government cope with 20 percent unemployment?

By Steven Hill, Social Europe Journal, August 17, 2011

This article is based on the author’s recent visit to Spain, conducting interviews and research into the impacts of the economic crisis. He witnessed the economic strain, but also the remarkable resiliency of the Spanish people. In this article he explores both the roots of the crisis and the responses of Spain’s Socialist government, as well as of everyday people, in coping with this challenging time.

§ § §

Walking around the streets of Madrid or Barcelona, one can’t help but wonder “How will Spain’s government — a socialist government no less — cope with near-Great Depression levels of unemployment?” Spain has been much in the news lately due to its unwanted membership in the notorious PIIGS (Portugal, Ireland, Italy, Greece and Spain) club of high debt countries. Adding color to the media coverage has been large protestor encampments at the Puerta del Sol plaza in Madrid and other cities’ main squares, where throngs of young people known as the Indignados, worried over their future, have occupied the nation’s consciousness.

Paradoxically, even as the economic strain is apparent in news stories and statistics, I am struck at how remarkably well Spain is coping with this challenging time. You don’t walk around Madrid or Barcelona and think, “This place is falling apart,” quite the contrary. The streets are teeming with people in the cafés, tapas bars and taverns, and in the parks and plazas; the transportation systems, both within cities and the high speed rail crisscrossing the country, are world-class and run on-time. Spaniards still all have health care, unlike 47 million Americans, as well as other social supports, and I see far more homeless people and beggars in downtown San Francisco (where I live) than in any parts of Spain. The public space still is energized by street musicians, sidewalk artists, and dramatic flamenco performances, and by that indomitable Spanish spirit of duende that has to be felt to be understood.

Yet a more penetrating realization comes from assessing the zero-sum dilemmas faced by a well-intentioned socialist government trying to cope with the ravages of a global economic collapse. In important ways, Spain is the quintessential “canary in the mineshaft,” showing the trade-offs of policy interventions when caught between a rock and a hard place. Particularly when it comes to loosening up regulations to create more job openings for the legions of unemployed, and reducing burdens on businesses that might encourage more investment, the Socialist government of Prime Minister José Luis Rodríguez Zapatero has felt compelled to pursue policies that have pitted his party against its most stalwart supporters, especially labor unions and public employees. Socialists and social democrats of all nationalities should take note.

The morphology of economic success…and collapse
Coping with Great Depression-level unemployment that has broken through the psychological 20 percent barrier is a delicate matter, and tracing the Zapatero government’s meandering policy path reflects the challenges. During a recent visit there I spoke with people in all parts of the country, including many small business owners, waiters, hotel staff, taxi drivers, museum workers and others, not only in cities but on the coasts and in the mountains. I also interviewed some of the Indignado protestors in Madrid and Barcelona, as well as politicians and experts from policy institutes and think tanks. What became apparent from these conversations is that the term “austerity” – which is hurled by opponents of such policies like an accusation or epithet – hardly reveals the Impossibility Theorem of dilemmas that this Socialist government has had to deal with.

Like every elected political leader, Zapatero inherited the political economy of his predecessors. Spain’s economy has been heavily dependent on the housing market and real estate construction since the time of the Franco dictatorship. With the Spanish economy in the late 1950s lagging behind other European countries in living standards, manufacturing and competitiveness, Franco established a development model based on attracting mass market tourism from northern Europe and stimulating a broad expansion of private home ownership. This was a notable anomaly from the rest of western Europe, which was enjoying a post-war boom in manufacturing growth.

But on the whole, it was a fairly successful policy for Spain, and when Franco died and the dictatorship ended in 1975, the advent of parliamentary democracy brought little change in macroeconomic policy. The first Socialist government under Felipe González, which lasted from 1982–96, continued the basics of this economic development model. Indeed, as researchers Isidro López and Emmanuel Rodríguez have written in the New Left Review, “The strategy for relaunching the economy in the 1980s was based on deepening Spain’s existing ‘specializations’ in tourism, property development and construction, as ‘competitive advantages’ neatly adapted to the new approaches of the emerging global economy.” Aided by an expanding financial industry and its reflex for creating lines of credit and increasingly risky investment vehicles, an ongoing property bubble became Spain’s domestic motor for economic expansion during the years of the González government. It fostered what López and Rodríguez call “asset-price Keynesianism” in which the increased value of private assets (such as home ownership) became the driver of growth in private consumption. As the value of households’ financial and property assets increased, it resulted in a double ‘virtuous circle’ of rising aggregate demand and financial profits, which boosted the broader macroeconomy.

And for many years this strategy worked wonders for Spain. In less than three decades it rose from being a poor, backward country run by a dictator to a modern, wealthy, technologically-advanced European social democracy. The numbers tell the tale. Starting in the 1990s, for over a decade the Spanish bull grew much faster than other European economies or even the U.S. economy. In the decade following 1995, 7 million jobs were created, the economy grew at a rate of nearly 4 per cent and the wealth of households increased threefold. Construction boomed as housing prices soared, rising by 220 per cent between 1997 and 2007, while the housing stock expanded by 30 per cent, or 7 million units. By 2007, the levels of private home-ownership stood at 87 per cent, one of the highest in the world (in the US and the UK the proportion of home-ownership has never risen above 70 per cent). In addition, some 7 million Spanish households owned two or more homes. The sustained appreciation of housing prices throughout the 1997–2007 ‘boom’ decade, as well as a record-breaking expansion of credit, created a dramatic increase in household consumption among the property-owning strata which, in Spain’s case, constituted the vast majority.

So Spain’s historic specialization in sectors such as tourism and property development, ramped up to hyper-speed with expanded lines of credit, seemed to be perfectly suited to the age of globalization; the Spanish economy appeared to be adapting itself to a new age of international financial deregulation. This all should sound familiar to Americans, Brits and the Irish, who thought that as the value of their homes inflated as the result of a housing bubble, they were wealthier and therefore could afford to consume more. Like in Spain, it all worked splendidly – until it didn’t.

Then came the global economic collapse of 2008. That collapse, the most destructive since the Great Depression in the 1930s, originated in the crashing housing markets of the United States and the casino of Wall Street. But then it spread like a tsunami around the world, including to European shores. Mortgage-backed securities that were filled with garbage loans had been packaged and repackaged numerous times into financial cluster bombs known as derivatives, credit default swaps and other exotic investment vehicles. These had been given AAA ratings by the corrupted, US-based credit rating agencies, the same ones that had given AAA ratings to Lehman Brothers, Bear Stearns, Enron and other failing companies right until the end because they are paid by the same entities they are rating. And given the interlocked nature of the global economy and the banking and financial industries, and the hidden nature of these mortgage-backed investment vehicles, the whole trap finally blew up in the world’s face. This caused a massive collapse of the housing and construction markets not only in the U.S. but also in Ireland, the United Kingdom and beyond. Spain was swept up by the tsunami, and suddenly the sector that had been the primary driver of its economy for decades crashed. It was an economic disaster unlike any that Spain had seen in a long, long time.

From stimulus to austerity
In reaction to the housing and economic collapse, the Zapatero government at first followed a textbook Keynesian course. In November 2008 it added its interventionist punch to that of its fellow European nations as well as the United States by launching the largest stimulus package in the European Union (measured as a percent of gross domestic product). The stimulus financed the creation of short-term public employment and apprenticeships at the local level by giving direct aid to municipalities to improve local infrastructure. These measures especially benefitted those who had lost their job in the construction sector after the bursting of Spain’s enormous housing bubble. The Zapatero government also provided a tax deduction of 400 euros (about $570) as a boost to consumer spending, and expanded unemployment aid and professional training programs. These interventions were exactly the type that Nobel Prize economist Paul Krugman, Dean Baker and others were calling for to create jobs, boost consumer demand and counteract the stark decline in business activity, especially the housing and construction industry in Spain.

Such stimulus measures had the desired impact of mitigating the worst impacts of the economic collapse. But by mid-2010 the Spanish economy, like the other PIGS economies as well as the U.S. economy, remained stuck in gear. Complicating matters further, the slowdown had reduced government revenues more than had been projected.  So now adding to the woes, the government’s annual deficits as well as accumulated debt, which before the stimulus had been one of the lowest in the world among developed economies, had reached worrisome levels. The Zapatero government came under increasing pressure to cut both its current spending and its long-term debt. This pressure came from many quarters, but most notably from its eurozone allies because Spain had breached the limits for debt imposed by the rules of the eurozone’s Stability and Growth Pact (though just about every other euro zone member also had breached them); and more ominously from the bonds markets which began edging up interest rates on Spanish loans, making it more expensive to borrow to finance its ongoing debt.

In reaction, Zapatero introduced a number of carefully considered measures to scale back government spending, just enough it was hoped to calm the bond markets and other critics. These included a 5% salary cut and a salary freeze for public employees, a cost-of-living freeze for pensions, the elimination of “kiddie stipends” (the widespread European practice of providing several hundred dollars per month per child to families), an increase in the value added tax (like a sales tax, charged on most purchases), and modest cuts in health spending, mainly those linked to pharmacy and medicine benefits (which are far more generous than those in the U.S.). These cuts affected a variety of groups, but especially public employees and pensioners who are part of the Socialists’ core constituency. Trade unions responded to these cuts by calling for a strike of public employees in June 2010.

Labor insiders vs outsiders
Further bedeviling the Socialist government’s decision-making triage was the complexion of Spain’s labor sector. More than most countries, and increasingly as unemployment began climbing in the aftermath of the economic collapse, Spanish workers are polarized into two segments—those with secure employment (insiders) and those without it (outsiders). Each of these constituencies demands radically different interventions in the economy.

“Insiders, such as labor union members and public employees, strongly prefer employment protection schemes that protect their jobs,” says Professor Mariely Lopez-Santana of George Mason University, who studies Spain’s labor markets. “Whereas outsiders such as the unemployed or those with temporary employment favor policies that reduce labor protections to pry open more jobs.” Historically, socialist and social democratic governments have maintained or expanded employment protection schemes because labor unions are a core part of their political base. Outsiders usually don’t have sufficient political power to influence parties and electoral outcomes; recent immigrants, who are the weakest politically, have been especially affected by unemployment during the crisis, as have young people, giving rise to the Indignados camped out in Madrid and other cities’ main squares. However as unemployment rose and more insiders started joining the ranks of outsiders, the pool of outsiders increased. Suddenly the Socialist government was faced with a difficult choice: should its policies support the insiders or outsiders? Damned if you do, damned if you don’t.

Despite protests from its labor allies, the Zapatero government responded by scaling back some of the employment protections and expanding policies designed to help the outsiders. The government passed measures which were highly unpopular among the insiders, including making dismissals easier and less costly. The government expanded the conditions for which a person could be dismissed, and drastically reduced the amount of severance pay received by employees who lost their jobs. By law that severance had amounted to 45 days of salary per year of employment – typically thousands of dollars in severance for each laid-off employee –and now it was reduced to 33 days. The government also raised the retirement age from 65 to 67. The government’s rationale for doing all of this, which could be justified on the basis of universal and socialist values such as fairness and equality, was to open up the labor market to more outsiders and to create more jobs by reducing burdens on businesses as a way to entice them to invest more.

Leftist critics, whether in Spain or beyond, saw it differently however and accused the Socialist government of selling out its core principles and constituencies. Yet it was hard to deny the downward trajectory of the economy which prompted the government’s interventions. Indeed, wherever I traveled in Spain, businesses complained of sales being down and fears of a dwindling future. Waiters I spoke with said that while their restaurants are still mostly full on the weekends, people are spending less money. “Instead of having a three course meal, people have less to spend so the bills are smaller,” one waiter said. Some of the business owners complained forcefully about the rigidity of regulations that made it difficult to trim their workforces during a downturn, including the generous severance payouts. One small business owner with eight employees told me he would have to pay about $14,000 per employee to lay off two workers that he couldn’t afford any more because his sales were down 40%. “Please explain to me how my business is to survive,” he asked me, “under the weight of all those employees that I no longer can support. Most of my friends and neighbors are business owners. The talk at our table when we get together is that we are all struggling to find some way to survive.”

Despite the government responding to these complaints by trimming the amount of these severances by 25%, many small business owners say even that amount makes them more reluctant to hire more people. This has led to other coping strategies by both employers and employees, including an increasing number of people working without a contract at all, essentially under-the-table on the grey market, which allows them to skirt the law on severance pay. In fact, says Professor Lopez-Santana, many people claim that the unemployment rate actually is lower than the official 20% because so many workers have opted for under the table work without a contract, and so don’t show up in official figures (this is presumably true as well of official figures showing unemployment over 40% among young people). Responding to this, the Spanish government passed legislation to create incentives for employers to turn employees into “regulars” with fixed contracts. But the economy is starting to get into that grey area where it becomes more difficult to measure things like unemployment, which is a precarious place for a modern economy to be.

Finding the way forward
Whatever the true unemployment figures, it’s clear that there are no quick fixes, despite inflammatory rhetoric from all quarters. The economics profession itself is split over the best policy course, not only in Spain but for all the developed capitalist economies. Economists like Paul Krugman are calling for renewed stimulus spending of even greater scale, while other economists call for more slashing of government spending. But what is clear is that working through an economic collapse of this magnitude has its own time frame that can be nudged along by specific policies but can’t be rushed. It takes time for both the public and private sectors to deleverage and pay off their high levels of debt, and Spain is trying to recover from a housing market collapse of epic proportions (for-sale signs are so much in abundance that I joked to one acquaintance that they have become one of Spain’s national trees).

The Socialist Party can hardly be accused of being corporate or bank industry shills; they are pragmatists, and over the course of two decades both the González and Zapatero governments maintained economic policies that had been undeniably successful. Complaints against the Zapatero government focus more on being slow to recognize the extent of the crisis within Spain, and, like many disaffected with the Obama administration, its failure to get the economy moving again. Many Spaniards are angry with the fact that the financial industry was able to get away with crashing their economy (much like it did in the US), and the government’s feebleness in dealing with that. But Spain’s recovery also is mixed up in the broader problems of the eurozone and sovereign defaults which right now are shaking Europe at its roots. That factor naturally causes many to question Spain’s further involvement in the eurozone, and to propose a return to Spain’s previous currency the peseta. But the complexities and precarious unknowns of such a course are so immense that it has little real traction.

As a result of all this pent-up frustration and outrage, there have been a number of strikes and demonstrations. The day I arrived in Barcelona a huge march took place with a reported 100,000 participants. And in a clear signal that people are unhappy with the Zapatero government, recent regional elections resulted in big losses for the Socialist Party, including in many regions that have voted Socialist for a long time. Ironically, the electorate voted into power at the regional level the conservative People’s Party, which is likely to enact even harsher measures than the Socialists. But people are demanding a change, just about any kind of change, so venting at the government through the ballot box is seen as the best way to achieve that. With no one having solid policy responses that inspire widespread political support, “the people,” led by the Indignados, are left with their righteous yet unfocused demands.

Despite all of this unrest, what was equally striking in every place I visited, and just about with everyone to whom I spoke, was a noticeable lack of panic and a general optimism that stubbornly insists on plowing forward. Spain’s Mediterranean climate lends itself to an outdoor and nightlife culture, with people ambling in the streets, in the cafés and at the beaches at all hours. Cristina Manzano, deputy director of FRIDE, a think tank in Madrid, summed it up when she told me, “I think that the impression of apparent happiness is related to the fact that we are a very outward people. People are now used to this crisis and don’t pay so much attention. The general mood has been much worse in other moments of this crisis.” Another person told me, “In Greece, they go on strike; in Spain and Portugal, we go to the beach.”

Indeed, it is remarkable how everything is still functioning for the most part normally. How is this possible, I wondered? José Ignacio Torreblanca, director of the Madrid office for the European Council on Foreign Relations, supplied part of the answer. Besides the expanding grey economy which makes the actual unemployment less than official statistics, Torreblanca explained how the “family and social pillars” are functioning as they are intended: acting to spread the pain around during these difficult times (as well as to spread the prosperity around during the good times). Even with government spending cutbacks, Spain still has had fairly generous unemployment benefits, as well as the aforementioned severance pay, tax deductions and other supports for families and individuals. Families are motivated to help each other, especially parents assisting their young adult children by drawing upon savings (though complicating this structure, many of the older workers best positioned to help their families have the “insider” jobs that are increasingly precarious). All of these factors appear to be mitigating the pain. But when I asked Torreblanca “How long can the social and family pillars hold out, how long can they play this role?” he looked at me gravely and said, “One year, more or less. Then, if the economy hasn’t begun to pick up, we’ll see what happens. But I don’t think it will be good.”

In short, the strength of Spain’s institutions, values and culture — in addition to targeted government supports for workers and families — is making a real difference, at least for now. I came away cautiously impressed at how the spirit of solidarity seems to be prevailing, andhow everyday people are maintaining an optimistic outlook and joie de vivre. In Denia, south of Valencia, I was amazed to attend a fiesta on the beach along with 15,000 other people – yes that’s 15,000, not 1500 — celebrating the midsummer feast of San Juan. Walking up and down the beach I could see hundreds of campfires, part of the holiday ritual in which people jumped over the high flames on their way to soaking their heels in the ocean to, according to the ancient Christian superstition, ward off evil spirits. It was a rousing display of duende, not to be missed, but as my hotel overlooked the beach I couldn’t help but bemoan that the next day the beach would be completely trashed with empty liquor bottles, lost shoes, bathing suits, condoms, abandoned campfires and who knows what else. To my pleasant surprise, by the time I awoke the next morning the entire beach had been completely scoured clean. In the middle of the night, crews and sand zambonis had cleaned it all, like Santa’s elves. These people had their act together. In San Francisco, where I live, twenty campfires on the beach on New Year’s Eve left a scar that lasted for months.

No, something about Spain still undeniably works, despite its present difficulties. I wonder how the United States would handle 20% unemployment – would we handle it as well as Spain? Do we have the institutions, the values or cohesion to handle that level of economic and societal distress?

Looking forward, Spain has many assets going for it, including a highly educated and skilled workforce, ideal climate and a gorgeous landscape and beaches that make it a tourist mecca for other Europeans, a burgeoning green tech industry that has made Spain a leader in solar and wind power, outstanding infrastructure and mass transportation like high-speed trains (much of it partially funded by E.U. subsidies), and more. As a Spanish-speaking nation, it benefits from a natural simpatico with the fast-developing economies in Latin America. If the Arab Spring in North Africa survives and deepens, Spain’s geographic proximity (its coast is only 36 miles from the Moroccan coast) would allow it to benefit from relations with those developing economies as well. The BBC reports that more and more Spanish workers are looking outside of Spain for work, especially in prosperous countries like Germany which needs more skilled workers to maintain its momentum. But old attitudes die hard; in the U.S., people moving from Ohio to California for work is noncontroversial. In Europe, Germans moving to German-speaking Austria for work, let alone Spaniards moving to Germany, is still viewed by many as if one has moved to Mars.

For a Socialist government like Zapatero’s, as well as for other social democratic parties in Europe, this economic crisis has been a wake-up call. It has exposed to them the limitations of their previous models of economic development that, like in the U.S., was too dependent on asset bubbles (like in the housing and stock markets), hyper consumerism and public and private debt. Europe is groping toward a more sustainable economics, and it is in that context that the push by German leaders for what has been derogatorily labeled “austerity” must be understood. German Chancellor Angela Merkel made a game changing statement at the Group of 20 meeting last fall when she said, “It is essential to return to a sustainable growth path.” Advancing her own theory for the economic meltdown, she said that a primary cause was that “we did not have sustainable growth. In many countries growth was built on debt and [speculative] bubbles.”

What Merkel was saying is that the era of U.S.-style, trickle-down economics is over. European leaders, including Socialist leaders like Zapatero, seem to believe they are pushing reset on Wall Street capitalism and offering a necessary corrective for a renewed 21st century capitalism, one based on economic as well as ecological sustainability that fosters a more broadly shared prosperity. This process of redesigning capitalism along the lines of “social capitalism” will take many years, but there really is no other choice. The Washington consensus model has reached its end game, at least in Europe.

It’s important to remember that “old Europe” actually is quite young. The current European Union configuration of 27 member states dates only to 2007, and the euro dates to 2002.  From America’s first government in 1789, it took approximately 80 years and a civil war to solidify its union, including the launch of a single currency. Europe’s new trajectory could take a decade or more to emerge. And in Spain, a long-standing economic development model based primarily on housing and construction, tourism and too much credit that unleashed an unsustainable housing bubble and consumption binge is due for an overhaul. That also will take time, as well as a measure of trial and error policy dynamism to find what works. In the meantime, everyday Spaniards are left coping with the impacts of a global economic crisis that, like a tsunami, took their economy and turned it upside down.

Steven Hill (www.Steven-Hill.com) is a political writer whose latest book is “Europe’s Promise: Why the European Way is the Best Hope in an Insecure Age” (www.EuropesPromise.org).

Steven Hill

About The Author

Steven Hill is a political writer whose latest books are "Expand Social Security Now: How to Ensure Americans Get the Retirement They Deserve" (www.ExpandSocialSecurity.net) and "Raw Deal: How the 'Uber Economy' and Runaway Capitalism Are Screwing American Workers" (www.RawDealBook.com). His previous books include "Europe's Promise: Why the European Way is the Best Hope in an Insecure Age" and "10 Steps to Repair American Democracy." Follow him at www.Steven-Hill.com and on Twitter @StevenHill1776