Don’t fret over Spain’s political risks, its economy is the big factor

The Spanish economy is standing firm, as the country weathers political problems to achieve a fifth consecutive year of growth.

Spain’s economic recovery has been nothing short of remarkable, with 2018 proving to be a fifth consecutive year of growth despite slowing to a real-terms 2.5% from 3% in 2017.

The country has had its fair share of political problems, not least the crisis surrounding the secession attempt by Catalonia and corruption scandals ultimately seeing off the minority People’s Party government led by Mariano Rajoy – only to see another unstable minority installed, this time formed by socialists with Pedro Sanchez at the helm.

Political risk indicators were marked down accordingly in 2018, although it did not prevent Spain improving, indeed quite considerably, in Euromoney’s risk survey.

Gaining more than three points, Spain climbed four places and is now sandwiched between United Arab Emirates and Mexico, at 37^th in the global risk rankings.

A whopping 18 places higher than five years ago, Spain is inching closer to becoming a tier 2 borrower, moving within the second of five categories of risk into which Euromoney puts all of the 186 countries it surveys.

Its present high tier-3 status signals it should be already A-rated in line with the views of Fitch and Standard & Poor’s, signalling Moody’s (still clutching to a BBB+ rating) is lagging behind.

This declining risk trend reflects the fact economic indicators have become more important than political ones in recent times.

That isn’t to say that political risk doesn’t have any bearing on investor returns. It depends. But in Spain’s case, robust economic growth, tighter labour markets and improving fiscal metrics are the dominating themes.

Scores for bank stability and government finances have improved – the latter reflecting the deficit narrowing to 2.7% of GDP last year despite the frustrations passing the budget that are also affecting fiscal planning for 2019, and hinting at early elections.

Economics dominating risk profile

This seems to be a dominant theme more generally influencing global markets.

In a recent research note, Thomas Harr, global head of fixed income and corporate research at Danske Bank, states that since 2011/12, “market volatility has decoupled from estimates of global political uncertainty – i.e. uncertainty about future governments’ actions.”

He believes this is partly due to too much “political noise”, for instance where public pronouncements do not have much to do with policymaking – which, incidentally, ECR includes as a risk factor.

It is his opinion that there is too much focus on politics rather than economics in analysing market volatility, and often a focus on the wrong type of political uncertainty.

He gives the example of Sweden, which was left without a government for months. This was a big focus of attention, but it had little impact on policymaking (or market returns).

At the same time, analysts tended to ignore the German car emissions scandal, which had a bigger impact.

Independent country risk expert and Euromoney survey contributor, Norbert Gaillard, agrees, stating that: “political uncertainty does not necessarily transform into political risk”, as the Swedish elections underline.

He also notes the fact that even some political risk may be just noise.

Of course, some risks may have longer-term consequences, such as the election of Trump in 2016 or a no-deal Brexit – though even there it can be mitigated eventually by signing new trade deals – but there can be an overreaction to political events.

Another salient point Gaillard mentions concerns the time horizon of investors given the fact some political risks have only short-term effects.

Back to Spain

Germany and Italy have shown greater weakness in their economic indicators, but Spain is expected to see a more gradual economic slowdown, and crucially no recession, assuming there are no major shocks.

Tariff wars, a slowing China, and European policymaking – including the possibility of a no-deal Brexit – are risks to keep an eye on.

Spain’s domestic political risks could also develop unpredictably.

Yet in a country with a strong tourism sector, benefiting from a favourable external environment, Spain should outperform on the economy.

Economists at BBVA Research foresee GDP growing by 2.4% this year, and by 2% in 2020, creating roughly 800,000 more jobs over the period to bring down the unemployment rate closer to 12%.

The economy will receive support from monetary policy stimulus continuing longer than anticipated, lower oil prices and a more expansionary fiscal programme, with wage growth bolstering consumer spending.

Euro Zone Barometer, a monthly survey of independent forecasts (including BBVA’s) says fixed investment will grow by 4% this year, and with inflation and unemployment falling, consumer spending will rise by 1.8%.

Spain will also produce a current-account surplus totalling 1% of GDP, and as the deficit shrinks the gross debt burden will fall to 96% of GDP on a longer-term downward trend.

“Growth continues to be underpinned by solid fundamentals,” says ECR survey contributor Roser Ferrer, an economist at Caixabank in Barcelona and a contributor to Euromoney’s risk survey.

While acknowledging the international context has deteriorated slightly, she says: “We expect this uncertainty to be short lived and the impact limited.”

The economic recovery is strong enough to withstand internal political uncertainties and external risks from trade tensions, Brexit and so on, Ferrer believes, adding: “The Spanish risk premium has remained fairly contained over recent months despite increases in the Italian risk premium due to its own political situation.”

Italy lies 43^rd in the global risk rankings, six places behind Spain, signalling Spain is still the safer option:

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