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Analysis
Rajoy in checkmate

Rajoy in checkmate

Economic resilience amid political uncertainty

by Danae Kyriakopoulou in London

Fri 1 Jun 2018

The vote of no confidence against Spanish Prime Minister Mariano Rajoy, due on Friday 1 June, is adding to political turmoil across Europe. It follows the Italian political saga and Greece's inability to secure a 'clean exit' from its third bailout at last week's Eurogroup meeting of euro area finance ministers.

The vote was called by PSOE, the Spanish socialist opposition party, last week. It was triggered after the high court found Rajoy’s Partido Popular guilty of involvement in a bribes-for-contracts network known as the Gürtel case. This is the latest in a long list of corruption scandals associated with the PP. Initially the vote looked too close to call, but the announcement by the Basque PNV party on Thursday afternoon of its intention for its five MPs to back the motion pushed the number of expected votes above the critical 176 threshold. This effectively puts Spain’s prime minister in checkmate position: he could either resign, or will be voted out. 

The PNV’s support adds to calls by the left-wing Unidos Podemos and right-wing Ciudadanos parties for Rajoy’s departure. However, there is no consensus on what should happen next. The passing of the motion would automatically elevate Pedro Sánchez, the PSOE leader who introduced the motion, to the position of prime minister. Legally he would be entitled to stay in office until 2020. Politically and practically, this seems highly unlikely. PSOE has a minority position in parliament and Ciudadanos – which is leading the polls – may instigate political deadlock by not backing the government until fresh elections are called. Sánchez has promised to hold elections, but has not specified when this would happen, adding to the already elevated levels of political uncertainty.

Despite these political developments, a major break in economic policy is unlikely. On Thursday, Sánchez announced that should he become prime minister, he would stick to Rajoy’s budget that was passed by parliament last week. The budget represents a break with the PP’s previous policies of austerity, including increased pension payments and reduced taxes for low-income workers. The nomination of Pablo Hernández de Cos on Tuesday as Banco de España new governor will probably not be affected by a change in government. Spain has a very different macroeconomic fundamentals backdrop to Italy, where markets experienced their worst sell-off in decades. Spain’s political uncertainty is also unrelated to attitudes towards the euro and the EU. While bond yields rose and equity markets fell, market reaction has been muted.

But while the situation in Spain is in no way comparable with that in Italy, the unfortunate timing is adding to market volatility. Ana Botín, executive chair at Banco Santander, warned against the potential cost of political uncertainty to the economy in a speech in Bilbao on Thursday. The wave of uncertainty is coming after a year of ‘Euroboom’ characterised by strong economic growth across the euro area. This benefited reserves and assets held by the continent’s public investors – central banks, sovereign funds and public pension funds. Europe was the region with the fastest growth in assets, according to research published as part of OMFIF’s Global Public Investor 2018.

Still, important challenges remain, ranging from political uncertainty and populist anti-euro tendencies, to fundamental reforms required to improve the monetary union’s architecture. The Spanish Ministry of Economy outlined its position on strengthening the architecture of the Economic and Monetary Union in a paper published in April. On Tuesday the EU said it intends to redirect €30bn in its 2021-27 budget from central and eastern Europe, particularly Poland, towards boosting support for Greece, Italy and Spain. This should provide some economic respite for whomever ends up leading Spain’s new government as the PP era comes to a close.

Danae Kyriakopoulou is Chief Economist and Head of Research at OMFIF.

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