As every year, in June was released the Annual Report of the Bank of Spain - BE (2015). A report that probably has less impact now than a few years ago because the BE has lost all authority over monetary policy. Competences which have now passed into the hands of the European Central Bank (ECB). However, the analysis from the BE over the economy of the previous year (2015 in this case) and the lines that it points out about the guidelines for economic policy in the future remain interesting, especially as a point of view qualified of the dominant groupthink.

The “recovery” of the Spanish economy

The report begins with an analysis of the international environment pointing to the significant uncertainty existing, the moderate global growth and the inflation expectations downwards in the euro zone, and the expansive monetary policy of the ECB.

Then, regarding the situation of the Spanish economy it emphasizes very much the recovery of the Spanish economy in 2015 with a growth of 3.2% of GDP and the creation of half a million jobs, which has allowed the decline of the unemployment rate. In fact, it is the second year that the economy is growing since 2008, and it does thanks to the domestic demand while the external demand has a negative contribution to GDP growth, just the opposite of what happened when the economy was in recession.

But we must put this recovery in context. Regarding the GDP, it is true that growth in 2015 was higher than in any of the G7 countries, but from 2009 to 2013 there was negative growth, more than in any of these countries in the first three years and except for Italy in the next two. At the same time, real GDP per capita and real GDP are, respectively, in 2015, 5.7% and 3.3% below the value they had in 2007. Much worse than in the G7 countries (except Italy where it is worse than Spain), where the values of these two variables have returned (or clearly exceed) the values of 2007. It should be noted in particular the very positive evolution of real GDP per capita of Germany.

Regarding employment, it is true that the Spanish economy created it in 2014 and specially (more than any other country in the G7) in 2015, but after five years in which there had been a very high destruction of employment (much higher than in any other G7 countries). The unemployment rate, meanwhile, although it has declined the past two years, is still higher than 22%, more than double the G7 countries (except Italy narrowly) and almost five times higher than in Germany and more than six times higher than in Japan.

According to the report of BE, this growth has led to correct some macroeconomic imbalances accumulated and it is based on three elements: firstly, an improved competitiveness achieved via adjustments of prices and wages, which has improved competitiveness indexes and has lowered the unit labour costs of the economy; secondly, a reduction in interest rates, thanks to the expansive policy of the ECB, which has improved the financing to households and businesses and, according to BE has boosted exports, investment and consumption; thirdly, what the report calls "temporary factors" such as the decline in oil prices, monetary expansion, the depreciation of the euro and a relatively expansionary fiscal policy (which not has allowed to meet the public deficit target set by the European Union).

There is no doubt that the intense internal devaluation, with important adjustments downward of prices and wages, has played a key role in the recovery of the economy in the past two years. The inability of the currency devaluation, due to the existence of the fixed exchange rate that means the euro, has forced to make adjustments via internal devaluation: adjustment in prices (so that inflation has been declining since 2011 and has become deflation from 2014); major adjustments in wages that have allowed an important reduction in unit labour costs; worsening of working conditions with a growing importance of employment and labour relations increasingly precarious. All this has improved the indexes of competitiveness of the economy, such as the real effective exchange rate.

It is at least surprising and curious that some factors, which given the great external dependence of the Spanish economy probably have played a very important role in this recovery (expansive monetary policy of the ECB, the decline in oil prices, the depreciation of the euro and a relatively expansionary fiscal policy), are labelled in the BE's report only as "temporary factors" which have contributed to the recovery process. Nobody can doubt that the decline in oil prices, which obviously can be transient, has played an important role in reducing the prices and costs of companies to improve indexes of competitiveness. Because, it is clear that the depreciation of the euro relative to the dollar has improved the competitiveness of the Spanish economy with countries undertaking international transactions in dollars. Moreover, the same BE recognizes the role played by the expansive monetary policy of the ECB to facilitate access to credit by households and companies and, consequently, that there has been a growth in domestic demand of the economy.

However, it is surprising (and as will be discussed later contradictory) that they did not make more emphasis on the role played by the relatively expansionary fiscal policy. From the data we can see that the Spanish public deficit, although declining since 2013, in 2015 is higher (except Japan) than that of the G7 countries and is far above (4.5% of GDP) than expected in the stability pact and the "fiscal compact" for the euro zone. At the same time, the structural deficit, although declining, remains at 2.4% of GDP, well above the 0.4% envisaged in the law of budgetary stability.

Obviously, and logically, these public deficits very important are increasing dramatically the public debt (more than in any country in the G7), which rose from 35.5% of GDP in 2007 to 98.9% of GDP in 2015. An increase of 179%, 2.5 times more than in Germany, the country of G7 where has grown less and 1.8 times more than in France, the European country of the G7 where increases more after Spain.

The report from BE insists that improvements in competitiveness that have been mentioned before have produced an increase of exports since 2010 and that some SMEs have started exporting for the first time. Even it points out (in a hasty manner) that, although imports again grew significantly with the recovery due to the significant external dependency, there is some indication that imports could begin to show greater sensitivity to the evolution of competitiveness. On the other hand, it emphasizes a strong recovery in private domestic demand: the investment as a result of the dynamism of exports and the improvement of the financial situation of the companies; the private consumption due, following the BE, to improvements in employment and the aforementioned expansionary monetary policy.

Again, however, it seems appropriate to put these considerations in context. There is no doubt in relation to the correction of imbalances in the external sector as the current account balance which has gone from a deficit (as % of GDP) of more than 9% in 2007 and 2008 to a surplus (modest) since 2013 to 2015.

However, based on existing data, it seems as much or more due to the slowdown in imports from the crisis (growing less than in all G7 countries and that today they are not yet at the level that had in the 2007) that to the increase in exports, which actually only have been surpassed by the US and Germany among G7 countries.

Regarding the recovery of private consumption and investment, there is no doubt that it has been the case. In fact, it is interesting to confirm as are the elements of domestic demand (private consumption, public consumption and investment) that have a positive contribution to GDP growth when the economy recovers in 2014 and 2015, while external demand makes a negative contribution to GDP growth. Quite the opposite of what happened in the crisis years (from 2009) when it was external demand which prevent that GDP did not drop more, while the components of domestic demand made a negative contribution to GDP growth (except for public consumption in 2009 and private consumption in 2010).

The challenges awaiting

After considering the factors that have enabled the recovery, the BE's report focuses on the challenges awaiting to the economy and economic policies that should be implemented to achieve them.

The first challenge is the need to reduce the number of unemployed (and unemployment), which remain very high, especially in the case of young people, with the added disadvantage that it is increasing unemployment of long duration and, therefore, they will increase the chances of structural unemployment. Against this situation they propose a series of measures topical and typical of the predominant neoliberal thought which, moreover, they are often contradictory and they have empirically demonstrated its inefficiency and lack of results. The fundamental policy which is proposed, following what has been done in recent years, is to further increase flexibility in the labour market and adapting working conditions to the needs of businesses.

In other words, neoliberal reforms of the labour market to adjust (reduce) even more wages (and unit labour costs) and to establish working relationships that foster the competitiveness of enterprises and against evidently working conditions of workers. A policy (of austerity) that, as has been demonstrated empirically in recent years, hinders the growth of private consumption, domestic demand and GDP. This policy, moreover, has led to an increased uncertainty in the recruitment and working conditions of workers and therefore it is inconsistent with one of the proposals made by the BE: increasing permanent contracts. Finally, the BE proposes also the improvement of active employment policies, that has been a pending policy from always which, moreover, is very difficult to implement in the context of policies of public spending cuts.

The second challenge, following the BE, is to curb the excessive public deficit and the public structural deficit that in recent time have deteriorated or have not been improved at the pace expected. For that, the BE proposes: strict compliance with the law of budgetary stability (a structural public deficit of 0.45 and a total public deficit of 3%); a program of fiscal consolidation in the medium term; to face the challenges of aging, which is a euphemism for not speaking directly of the reform of social security and pensions.

That is, the BE proposes the classic recipes from the dominant neoliberal thinking: "expansionary fiscal austerity," "growth from fiscal consolidation," which have proven that they don't achieve positive results. Austerity policies, fiscal consolidation, in recent years have led the peripheral economies of the euro zone, particularly in Spain as seen above, to a situation of not recovering the levels of real GDP and real GDP per capita from before the crisis, to an unemployment (especially from youth) and a long-term unemployment very high, and also to a large increase in inequality and poverty. Both the Gini coefficient (32.2 to 34.5) and the ratio between the richest 20% and poorest 20% (5.5 to 6.9) have been getting worse and the Spanish data are the worst of all major European countries. As regards poverty and social exclusion, the % of the affected population is approaching 30% (only Italy is at similar levels) and has been growing in recent years.

The third challenge, for the BE, is to complete the deleveraging of the private sector, continuing the deleveraging of households and firms since the equity position of some operators is still vulnerable. As some authors have pointed out, such as Richard Vogue or Steve Keen, the great growth of private debt has been one of the main causes of the great crisis that we have lived since 2008, a debt that in the case of Spain was especially important due to the housing bubble. The same Vicepresident of ECB, Vitor Constancio, acknowledged that public debt is a consequence and not a cause of the crisis, while excessive private debt and too risky and inefficient management by the financial sector when giving credits were a major cause of this crisis.

In fact, the Spanish private debt was 101.1% of GDP in 1999, reached 217.9% of GDP in mid-2010, and is still 175.8% in 2015. As for the families was 38.8% of GDP in 1999, reached 84.8% in mid-2010, and is now 68.6%. As for businesses was 62.3% of GDP in 1999, reached 133.1% in mid-2010, and is currently 107.2% of GDP. Companies that had borrowed more quickly than families before the crisis now they are deleveraging faster but in any case they are deleveraging more slowly than they had borrowed. And globally the private debt levels are still very important, as the BE recognizes, and could lead to a new crisis of excessive an uncontrolled indebtedness in a hypothetical situation of sustained economic recovery.

For the BE, the fourth challenge is to improve the position of external debt, which is very high and, therefore, makes the Spanish economy to be vulnerable. To achieve this, it proposes the creation of a sustained surplus of current account balance and to strengthen the gains in the indices of competitiveness of the Spanish economy. In fact, external debt as a percentage of GDP was about 40% in 1995, had risen to almost 100% in 2003 and has increased to 167.9% of GDP in 2015.

A good solution proposed to solve this problem is to achieve sustained surpluses in the current account balance. Something very difficult, if not impossible, given the great dependence on the Spanish economy which means that when there is a significant and continued growth, imports grow faster than exports and, therefore, tend to produce deficits in the balance of the current account balance. Therefore, at the moment of truth, the only possibility of lowering the debt (or at least prevent its continued rise) is to maintain and consolidate the gains in competitiveness indices. But this inevitably means more austerity, more internal devaluation, further downward adjustments in prices, wages and labour relations (against the workers).

The fifth challenge, following the BE, is to improve the productivity of the Spanish economy. The concept and measurement of productivity is not an easy thing, both in terms of labour productivity as of total factor productivity. The growth rates of one and the other in Spain are lower than those of other developed countries and also have a tendency to fall that it lasts from many years ago. In order to converge to the levels of productivity of the most advanced economies, the BE proposes: the reform of the regulation of some sectors to increase their level of competition; the reduction of barriers to entrepreneurial dynamism; improving institutional quality; and the promotion of human capital and technological capital.

Experience shows that the first measures proposed in practice usually they involve deregulation, liberalization and privatization of many strategic sectors (as energy, telecommunications, audiovisual, etc.), and that this does not always involve either more competition or more competitiveness. Too often it implies putting these sectors in the hands of large companies, multinationals or not, which behave like monopolies or oligopolies. Regarding the promotion of human capital and technological capital, from the implementation of austerity measures and public expenditure cuts, empirical data tell us that both the provision of technology and capital public expenditure, and private (even more), in R & D in relation to the euro area have decreased since the beginning of the crisis; at the same time, human capital endowment has remained stagnant and public expenditure on education have tended to decrease. Everything is extremely contradictory to the objective of improving the productivity of the Spanish economy, and if there is not a radical change of policy, which is not what it is proposing the BE, does not seem to have any chance of advancing in this way.

Finally, the BE points out, as sixth pending challenge, the necessary progress in the construction of Economic and Monetary Union (EMU), most of which do not depend at all from the Spanish authorities. In this sense speaks of a greater coordination of economic policies of member countries in the short term, through the creation of an independent European Fiscal Council, the banking union and the union of capital market. In the medium term would be necessary the progress in the fiscal union and structural convergence in areas such as labour market and tax system. A set of good intentions that have been spoken long ago and in which the advancements have been very reduced.

The “success” of ordoliberalism

In short, the Spanish authorities have wanted to be, so far, applied students of the economic policy guidelines that have been marked by the European troika -European Council, ECB and IMF- that is to say: structural reforms; fiscal consolidation; price stability. Structural reforms both on the labour market, which has meant a devaluation of wages (flexibility) against the workers, as in the markets of certain strategic sectors for making more flexible (theoretically) its prices, from the progress in deregulation, liberalization and privatization. Strict austerity policies, internal devaluation (since the euro prevents any external devaluation) to achieve fiscal consolidation, fiscal budgets balanced. An obsession with price stability (fight against inflation) which is the main and unique objective of the ECB.

These policies are based on the paradigm of German macroeconomic policy known as the "ordoliberalism" and focuses on the "social market economy". For "ordoliberals" the state has a central role in the functioning of society and the economy, but it should be limited solely to establish clear and stable rules (in the fields of monetary policy, fiscal policy, relations between employers and workers) and make them to be strictly respected by economic actors ( "culture of stability"). In no case the state should intervene directly in the production of goods and services or the redistribution of income and wealth to correct inequalities. The "ordoliberalism" has had a very important influence on the development of the EU, as it has been building a Europe of rules, creating a highly bureaucratized central institutions but without the possibility of direct intervention in the economy since the EU budget is around 1% of GDP. However, European rules and regulations have a decisive influence in many aspects of the daily lives of Europeans.

These policies have worked well in Germany: the GDP only decreased in 2009 and thereafter every year has grown; the GDP per capita since 2010 almost regained the level of 2007 and thereafter grows; unemployment has fallen; inflationary pressures have been contained; since 2012 it has a surplus in its public accounts; and trade balance and current account surpluses which are growing year by year. Germany, which had many economic problems in the early 1990s, after the reunification, has become the European country where the economy works better today. That does not mean that they did not have problems, ranging from the aging of its population, a large growth of economic and social inequalities, and a deterioration of its infrastructure and equipment as a result of having invested their savings in excess in the peripheral countries of the EU and not in its own country. Also, it has to be seen to what extent German financial institutions can recover all the debt of peripheral countries to which they have lent money too recklessly and too often for speculative projects (although, in recent years there has been a conversion of this private debt into public debt to international institutions and European states).

Contrarily, in Spain the success of these policies has been much more relative. The GDP has only grown the past two years, little in 2014 and with more strength in 2015. The GDP per capita in 2015 is still almost 6% lower than it was in 2007. The unemployment rate has remained over 20%, youth unemployment near 50%, the long-term unemployment tends to grow and the creation of employment tends to be temporary and precarious. They have also reduced inflationary pressures but to the extent that in the past two years the Spanish economy is in a deflationary situation, reduction in prices. The current account deficit has gone from being very important to achieving a small surplus in the last three years as a result of an increase in exports, and also, in a very high degree, a significant slowdown in imports, and this is an important difference with Germany, due to the policies of austerity and internal devaluation applied to the Spanish economy. Regarding public finances, although both the global public deficit as the public structural deficit of the economy have tended to decrease, they remain at levels much higher than foreseen in EU rules, because Spain has applied a relatively expansionary fiscal policy which helps to partly explain the recent growth of the economy.

If we analyze the balances by sectors we can see how the Spanish economy in the period of growth (1990 to early 2007) has increased the indebtedness of the private sector (households and businesses), with a growth of investment bigger and bigger than savings, which is financed largely (especially after the implementation of the euro) with resources that come from the outside, while the public sector was reducing the public deficit to reach into surplus in the last three years of the period; when the crisis begins it occurs rapidly and intensely a deleveraging of the private sector, with savings exceeding investment from 2009, and also decreases rapidly funding from outside, and meanwhile the public sector sees as increases too quickly and intensely their debt: in short private debt is becoming public debt. Very different are the balances by sectors in Germany since virtually all the years private savings exceeds private investment (there is no private sector debt), in the 1990s (after reunification) the financing of the economy comes mainly from the public sector borrowing; things change after the implementation of the euro because there was a continued growth in the surplus of the foreign sector, which is basically the sector who finances the economy with some timely contribution of the public sector, and all that allows that the saving of the private sector is increasingly more and more important that the private investment.

In fact, if you look at the principles of "ordoliberalism" Spain has been a good student regarding the control of inflation because it has even achieved a deflationary situation, and regarding the reform of the labour market because it has achieved a sharp moderation in wages and unit labour costs, greater flexibility and precarious conditions and relations of work, against the workers and in favour of employers, which has improved their levels of competitiveness. However, it has not been able to achieve the objectives in terms of fiscal consolidation, fiscal balances of budgets, because the deficits are much higher than they were planned and were set by the troika. Regarding market reform of some strategic sectors which have been deregulated and privatized, in many cases it has not been achieved flexible prices and to an increased competition as it has come to a situation of oligopolistic private dominance.

Regarding the policies of structural reforms in the labour market and product markets, prevailing macroeconomic theory holds that against asymmetric shocks (who think they are permanent) in the member countries of a monetary union, as the euro zone, structural reforms in the labour market and product markets are required to make them more flexible and to achieve the necessary adjustments. But, as recently demonstrated empirically De Grauwe and Ji (not suspected of heterodoxy) this is not the case when the shocks are temporary (not permanent) and also are not synchronized with the movements of economic cycles. In the latter case, which is what they have experienced the peripheral countries of the euro area since the beginning of the crisis, structural reforms do not work and what is needed are policies to stabilize the economy demand. Moreover, they add, structural reforms have a negligible effect on long-term growth of economies.

Following in the footsteps of Germany

Spain is acting wrongly if it tries to resemble Germany, simply because it is impossible. In recent years, Spain, as Germany, has been able to take advantage of some cyclical elements such as a short-term low interest rates on money, a fall in the exchange rate of the euro against the dollar, or the spectacular growth of emerging countries which have been important plaintiffs of Germans or Spaniards products. Other circumstantial elements are specific to Germany, such as the success with the East German reunification and the special relationships with the countries of Central and Eastern Europe where it could outsource production of parts of the value chain of their businesses to make it to a lower costs and improve competitiveness. At the same time, Germany also has not suffered a major bubble of property and construction as if it suffered the Spanish economy.

And above all, Germany has a number of structural strengths, which obviously has not Spain (or almost any other European country) that give him a power with which it is very difficult to compete. First, a strong social evaluation of the industry which, moreover, is specialized in high added value goods, such as machinery, equipment and high-end cars. Second, a training system that is aimed at the majority of people, not just to elites, and which is also closely linked to an innovation system very powerful and widespread; Third, Germany is a country where the production system and the people are very decentralized in the territory which, considered as a whole, we can say that is fairly balanced. Fourth, a primary role of unions in companies and branches, with a great social importance of the negotiations between employers and unions and with the participation of workers' representatives in certain business decisions. Fifth, the German economy, which is the third largest among advanced economies in the world (after the US and Japan), it is extremely open to the outside: its exports in 2015 represented 47% of GDP while Japan represent 18%, US a 13% (33% in Spain). This allows large external opening to apply internally economic "ordoliberal" policy because they can benefit from the demand promotion policies applied by other countries; as indeed has indicated Peter Bofinger, around 60% of the surplus in the German current account balance is with the US, UK, France and Italy, all of which have significant fiscal deficits. That is, the German economy is based on policies of expansion of demand practicing other countries, which at the same time and incomprehensibly, are criticized by German politicians and academics who advocate the "ordoliberalism". Germany acts as a "free rider" all taking advantage of this situation that can perform an isolated country that is very open to the outside, but that not all countries can apply at the same time (because someone must import the products of the "free rider" exporter), or you can not apply it in a country that has not a high degree of openness or in a monetary area that is not so open to the outside, such as the area euro.

Instead, Spain and other peripheral countries in the euro zone, as noted by Michael Pettis, have already passed the point at which they could have recovered from the crisis by themselves because they have already entered a situation of "financial collapse", that is to say, how they are countries that are overly indebted, the probability of having to make a suspension of payments is growing and this forces the majority of economic agents (households, companies, governments, policy makers, creditors, speculators) to act weakening their balance sheets and reducing growth prospects. A greater and more risky debt and slower growth increase the possibility of insolvency of economic agents and thus there is a vicious circle ("balance sheet recession"). Therefore, at this point, Spain and the peripheral countries have only three options in order to be competitive: one, a very long period of very high unemployment and devaluation of wages, which is what has occurred since the beginning of the crisis; two, an exit from the euro, in a single or jointly negotiated way, and obviously the suspension of debt repayment; three, a German adjustment (which Germany refuses) to stimulate its domestic demand, and especially private consumption, which would mean the reverse and the reduction of its trade surplus, which would increase demand and therefore GDP in the peripheral countries.

John Maynard Keynes and his circle of disciples, including James Meade, already warned of the problems posed by both external imbalances, from countries with deficits and from countries with surpluses. In this situation, he said, everyone should make adjustments to approximate the balance. He emphasized that if we forced only to countries with deficits to make adjustments, that would be counterproductive for global growth and very negative for the economy of the countries in which the deficit could increase instability and political extremism.