VZCZCXRO3711
RR RUEHAG RUEHDF RUEHIK RUEHLZ RUEHROV RUEHSR
DE RUEHMD #0207/01 0571020
ZNR UUUUU ZZH
R 261020Z FEB 09
FM AMEMBASSY MADRID
TO RUEHC/SECSTATE WASHDC 0291
INFO RUCNMEM/EU MEMBER STATES COLLECTIVE
RUEHLA/AMCONSUL BARCELONA 3860
RUCPDOC/DEPT OF COMMERCE WASHDC
RUEATRS/DEPT OF TREASURY WASHDC

UNCLAS SECTION 01 OF 02 MADRID 000207 
 
C O R R E C T E D  C O P Y (CORRECTED PARA MARKINGS) 
SENSITIVE 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ECON EFIN EINV ETRD PREL SP
SUBJECT: ECONOMY CONTINUES DECLINE, RECOVERY REMAINS DISTANT 
 
REF: A. 08 MADRID 707 
     ¶B. 08 MADRID 1257 
     ¶C. 08 MADRID 01080 
     ¶D. 09 MADRID 109 
 
MADRID 00000207  001.4 OF 002 
 
 
¶1. (SBU) Summary:  Spain's unemployment rate of 14.4 percent is 
the highest in the European Union (EU), and its economy is 
officially in a recession.  The government is responding to 
the crisis with a series of stimulus and support measures, 
relying heavily on deficit spending.  With over 3 million 
jobless workers, unemployment has become the GOS's number one 
concern, but President Zapatero remains firm in his refusal 
to consider increasing flexibility of hiring and firing.  GOS 
officials acknowledge that 2009 will be a difficult year, and 
very recently have begun to follow the lead of others in 
expressing concern about economic prospects for 2010. 
Spain's Achilles heal continues to be its slumping 
residential construction sector, which once fueled about 10 
percent of GDP.  End summary. 
 
---------------------------------- 
OVERVIEW OF SPAIN'S ECONOMIC SLUMP 
---------------------------------- 
 
¶2. (U) Spain's difficulties began with the downturn in the 
residential construction sector, which, as recently as 2006, 
fueled approximately 10 percent of GDP.  Home prices rose and 
construction boomed for several years, until interest rates 
began to rise sharply.  These high rates caused buyers to 
defer purchasing homes, which led to a collapse in demand in 
mid-2007 that bankrupted many prominent real estate 
developers.  The amount of unsold units on the market 
continued to grow for the next year as housing under 
construction was completed, and prices have declined 
significantly.  Construction companies and workers have been 
equally affected, as housing starts have almost entirely 
ceased and hundreds of thousands of workers have lost their 
jobs.  The international credit crisis aggravated these 
problems, and the global economic downturn has had a negative 
impact on other important sectors in Spain such as tourism 
and the auto industry. 
 
¶3. (U)  Over the past several months, consumption has 
stagnated and the Spanish economy has spiraled downwards. 
The National Statistics Institute (INE) confirmed February 12 
that the Spanish economy had contracted by 1 percent in the 
fourth quarter of 2008, marking the second consecutive 
quarter of negative growth, and officially placing Spain in a 
recession for the first time since 1993.  Unemployment spiked 
to 14.4 percent in December according to the EC's statistics 
agency Eurostat, making Spain the country with the highest 
level of unemployment in the EU.  The silver lining in the 
midst of Spain's economic problems has been the strength of 
its private banks, which are in better shape than their 
counterparts in other countries, and continue to post profits 
(ref A and D). 
 
------------ 
GOS RESPONSE 
------------ 
 
¶4.  (SBU) Over the past year, President Zapatero has taken a 
series of actions in an unsuccessful attempt to slow the 
economy's decline and rally confidence.  However, his 
emphasis over the past year on the importance of maintaining 
public confidence was criticized as an unwillingness to 
acknowledge the depth of the difficulties.  The GOS 
implemented a series of stimulus measures, including a 10-18 
billion euro tax rebate and relief package in April, and an 
11 billion euro infrastructure investment package in October 
(Refs A and B).  In response to the freezing of international 
credit markets, the GOS has begun to purchase mortgage-backed 
assets from banks and to guarantee up to 100 billion euros in 
new bank debt (ref C).  It also took steps to give the 
government the authority to inject capital into banks, though 
both the GOS and the banks insist this will not be necessary. 
 
¶5.  (U) The GOS's measures, coupled with a slowdown in tax 
receipts and an increase in unemployment compensation, 
brought a dramatic end to four years of budget surpluses. 
The deficit was over 3 percent of GDP in 2008 and will 
potentially reach 6 percent in 2009.  Spain's weakening 
fiscal position, along with other factors, prompted S&P to 
downgrade its sovereign debt credit rating from AAA to AA 
and Moody's to label its rating as "vulnerable." 
 
--------------------- 
WHAT THE FUTURE HOLDS 
--------------------- 
 
MADRID 00000207  002.4 OF 002 
 
 
 
¶6.  (U) The GOS acknowledges that 2009 will be a difficult 
year, during which unemployment will continue rise, and the 
recession will continue.  Until recently, GOS officials have 
asserted that the economy will begin to turn around in the 
second half of 2009.  On February 17, however, Second Vice 
President and Minister of Economy acknowledged in a 
congressional hearing that 2010 may also be a tough year for 
Spain, a prediction that is more in line with general 
opinion.  EU estimates predict a recession and higher 
unemployment for Spain well into 2010. 
 
¶7.  (U) Spain's Achilles heel, its residential construction 
sector, continues its downward adjustment.  With an estimated 
one million newly constructed properties left unsold, and 
prices continuing to decline, many experts say that the 
housing downturn will continue to have a major impact on 
Spain's economy.  New residential construction has stagnated 
and property prices have declined.  Property estimator TINSA 
estimates that property prices could fall an additional 20 
percent this year, after a 2008 decline of 10-20 percent. 
For the most part, homeowners are managing to pay their 
mortgages, with Spanish default levels significantly below 
U.S. levels.  This is in part because of higher downpayment 
requirements, strict repayment requirements, and a cultural 
prohibition against being in default on home mortgages. 
However, defaults rates are beginning to increase, and will 
continue to do so as unemployment rises and unemployment 
benefits run out.  If defaults increase too much, Spanish 
banks, particularly its savings banks/cajas, and the 
financial system could suffer as well. 
 
¶8.  (U) With over 3 million jobless workers, unemployment has 
become the GOS's number one concern, but President Zapatero 
remains firm in his refusal to consider increasing 
flexibility of hiring and firing as called for by business 
groups, the governor of the Bank of Spain, and the IMF.  Many 
analysts say that the GOS forecast that unemployment will 
reach 15.9 percent by year end is unrealistically low. 
Continued increases in unemployment and contractions in 
economic activity could lead to even tougher budget decisions 
for the government.  Two of the few factors in favor of the 
President Zapatero and the ruling Socialists are that: 1) 
national elections are more than three years away; and 2) 
popularity ratings for Zapatero and the Socialists, albeit 
low, are still somewhat higher than those for the 
scandal-mired opposition Partido Popular. 
CHACON