A Socialist Debacle in Spain, But Uncertainty Reigns

In what is being viewed as a dress rehearsal for the general election in 2012, Spain’s Socialist Party on May 22 suffered its worst defeat in municipal polls since Spain returned to democracy in 1978 after the death of the dictator General Francisco Franco. Amid mass anger at Spain’s failing economy, the center-right opposition Popular Party won 37.5 percent of the municipal vote across the country, compared with 28 percent for the Socialist Party. The left-wing El País newspaper described the defeat as "a tsunami drowning the Socialists."

With more than 8,000 city councils and 13 out of Spain’s 17 regional legislatures up for grabs, the Socialists lost control of traditional strongholds in the cities of Barcelona and Seville as well as the Balearic Islands and the region of Castilla-La Mancha, which had been ruled by the Socialists for nearly 30 years. The Socialists ended up with clear control of only three of Spain’s 17 autonomous regions. Overall, the PP won by about two million votes, compared to its victory margin of just 150,000 votes in 2007.

There also was a shock result in the Basque Country, where a new radical separatist alliance beat the Socialists. The new grouping, Bildu, which was nearly banned because some of its members are linked to the terrorist group ETA, won more than 25 percent of the council election vote. That put Bildu in second place, just behind the more moderate Basque Nationalist Party, which won about 30 percent, and pushed the Socialists, with 16 percent, into third place.

Conceding defeat, Spanish Prime Minister José Luis Rodríguez Zapatero blamed voter discontent on three years of economic crisis which has left Spain with an unemployment rate of 21 percent, the highest in the industrialized world. In a brief news conference after the polls closed, Zapatero said: “These results have a clear relation to the economic crisis we have suffered for three years. It is a crisis that is having profound effects on the morale of the citizens. I know that many Spaniards are suffering great hardship and fear for their jobs and future well being.”

Nevertheless, Zapatero ruled out calling an early general election, saying he would stay in office until the end of his mandate in March 2012 to pursue “job-creating reforms” by using existing alliances with small parties in Parliament, where the Socialists are the biggest minority.

But the bigger-than-expected victories for the PP will increase pressure on Zapatero to step aside before his term is up. Much of that pressure will come from within the Socialist Party. Zapatero announced on April 2 that he would not stand for a third term, and many believe a new leader could halt the fall in the Socialists’ popularity.

In any case, Spain’s political landscape is now highly uncertain and ultimately unsustainable. As a lame duck lacking a parliamentary majority, Zapatero will find it difficult to impose further austerity measures to cut the budget deficit as Spain struggles not to follow Greece, Ireland, and Portugal down the path toward a debt default.

Moreover, a change of political power in Socialist strongholds may lead to the disclosure of higher budget deficits in Spanish regions and municipalities than previously reported. After Catalan nationalists dislodged a Socialist government in the wealthy region of Catalonia in November 2010, incoming officials said the local budget deficit was twice as big as previously thought. Standard & Poor’s cut Catalonia’s credit rating on May 19, because of its swelling debt and deficit, and said it may reduce the grade further.

Any new discoveries of hidden piles of debt could have an adverse effect on the central government’s effort to cut Spain’s overall budget deficit. Madrid is seeking to reduce its budget deficit to 6 percent of gross domestic product in 2011 and to 3 percent by 2013, from 9.3 percent in 2010.

Reflecting the perception of increased political risk in Spain, the spread between Spanish and German 10-year bonds, a key measure of risk, was 14 basis points higher at 257 basis points, up 20 percent from just before the elections. Spain’s 10-year government bonds now yield more than 5.5 percent. Bank of Spain Governor Miguel Ángel Fernández Ordóñez said on May 23 that the Spanish government must now push forward with economic reforms to lower its unsustainably high borrowing costs. He added that a 200 basis point spread with German bonds is not sustainable.

Spain’s political situation is a critical issue for the European Union as a whole. Analysts say the price tag for a Spanish bailout could exceed €500 billion ($700 billion), leading many observers to conclude that Spain is too big to be rescued, and that a Spanish default would almost certainly lead to the breakup of the 17-nation euro zone.