Lina from Spain writes:

Logical: Presently our country is 100% debt-satisfying oriented. But no degradation in sight: we have survived other crisis over a 20% unemployment rate; meanly that of the 70s (Oil Crisis). Like before, the Labour Government is doing the Tories’ dirty job - or springcleaning. We are in the right path to re-emerge stronger!

While I admire Lina’s optimism, it is not only my view that the Spanish economy is degrading. Fitch’s downgrade was largely derived from Spanish growth forecasts, which Fitch’s models happen to agree with.

The US also had high unemployment as a consequence of the Oil Crisis. However, this debt crisis has progressed very differently from that crisis. For one, this crisis has a lot more to do with credit than anything else. In the US, the oil crisis had almost nothing to do with oil. In fact, gross oil products in all holding tanks increased during the crisis. Looking back, the crisis had a lot more to do with monetary policy and widespread panic. I can’t actually say the same for Spain, but I can say that this crisis is also progressing along a different path for Spain than previous crises.

I just spent a couple of hours going through the statistics provided by the Bank of Spain. For my fellow Americans who also discover that their Spanish isn’t quite up to the levels their high-school selves believed, Google Translate is a huge help, even knowing the abbreviations for things like PIB (GDP). I never learned that in high school. The csv files provide data series far longer than the plotted charts in the pdf downloads. Unfortunately, most of the interesting data series only go back to the 90s. Very few go back to the 70s. As a consequence, the data in the pdf downloads are almost as good as it gets. The cliff-diving is quite noticeable.

Due to the data series available, I was unable to answer a key question: What was the percentage of Spanish debt financed by foreigners in the 70s? This is a bit of a red herring. If Spain can increase exports and satisfy borrowing needs domestically, the short term should end up being rough, but Spain could emerge stronger. Prior crises have little impact on the range of feasible scenarios for the present crisis. The increasing yield spread vs. German bunds could be indicative of problems with foreign financing (it could also be indicative of strange things happening in Germany, so we’ll have to wait and watch to see how things progress).

I would like to remind everyone that monetary policy is not a tool available to Spain. The euro may be falling, and this is good for Spanish exports to the US. However, it doesn’t do anything for Spanish exports to France, Germany, etc. Typically, in a fixed exchange regime (which we can treat the eurozone as having), money flows lead to changes in production and consumption via a mechanism of domestic spending constraints (you can’t spend money that has gone to another country). The EU was hiding trade deficits through matching government deficits. This relationship has broken down, and huge adjustments are happening. Financial cutbacks in Spain will bring years of accumulated trade imbalances to the forefront.

But let me be even more frank: the monetary problem is tiny compared to the problem of accumulated debts in Spain. Spanish banks are extremely fragile. They are quite leveraged. Spain is facing both of these problems at the same time. Unemployment is high, but that has only a cursory relationship to the problems right now. Domestic savings will prove insufficient when the banks start telling the truth. Remarkably, there appears to be pressures for accounting sanity in Spain. Nowhere else in the world is this true. In a way, Lina may be right. Spain may emerge stronger. I believe there is a significant risk of collapse before the re-emergence.

If you are interested in the Spanish collapse, I would recommend these recent articles:

1. Whither Spain – Towards Finland or Argentina?

2. Spain Lowers GDP Estimate, Raises Unemployment Forecast As Coffee Finally Being Smelled

3. Spain—2010 Article IV Consultation Concluding Statement of the Mission - Um, that’s a terrible title. This is a recent IMF review of Spain. It is a concise summary.

Lina may be right. The rest of the world may have written Spain off prematurely. If Spain can satisfy their funding needs domestically, if the Spanish banks are as healthy as they’d like to believe, and if exports improve, Spanish unemployment will start to fall, domestic savings can start to increase, and Spain will emerge stronger. There is a strong probability that this debate will be settled within the next 12 months. In that time constraint, I have a plea for Lina: even if you are right and I am wrong, why not prepare for the worst? You only have one year to be proven correct. Is one year of modest living too much to ask? I wish you the best of luck. In my view, you will need it.