The shift in monetary policy will be a crucial factor during 2018. Overall, there the ECB will want to maintain an accommodative policy which will provide important protection to the Euro-zone as a whole. There are still very important structural issues which could quickly return to undermine confidence, especially with the Catalan issue not resolved. Nevertheless, interest rates will remain very low which will provide further support to the economy and the real estate market.
Big decisions for the ECB
ECB policies will inevitably play an important role in determining the 2018 outlook for the Euro-zone economy as a whole and Spain in particular.
The ECB has maintained a very accommodative monetary policy since 2014 with record-low interest rates and a quantitative easing programme. The main refinancing rate is at zero and the deposit rate is set at -0.40%.
The central bank is also still buying EUR60bn per month in government bonds in order to keep long-term interest rates at extremely low levels.
The very expansionary monetary policy has had an extremely important impact in underpinning domestic demand, especially with unemployment continuing to fall.
Spain has continued to post firm growth over the past 2 years with negative interest rates crucial in supporting domestic demand and strong rates of GDP growth.
Monetary policy will be slightly less supportive
Growth conditions within the Euro-zone economy have improved sharply and the ECB is now moving slowly towards a slightly less accommodative policy. The bank faces a crucial decision as the current quantitative easing programme is due to expire at the end of 2017.
The latest source reports from the central bank suggest that bond purchases could be extended by six or nine months while the number of monthly bond purchases could be reduced to EUR40bn or EUR20bn.
Overall inflationary pressures within the Euro-zone are still relatively weak and the ECB will remain committed to an expansionary policy. In this context, interest rates are likely to remain at a very low level which will continue to support domestic demand.
Our prediction is that the overall level of Euro interest rates should not pose a significant threat to Spain’s economy.
Spanish unemployment trends in focus
The Spanish unemployment surged during the financial crisis and Euro-zone debt crisis with the headline unemployment rate increasing to peak just above 26%.
Given the high level of migration from Spain, the employment levels fell even more dramatically.
Strong growth has been a key factor in allowing Spanish unemployment to decline to near 17%, although this rate is still extremely high in an international context.
Any fresh upturn in employment would be very important in undermining confidence both with Spain and in international markets, but the forecast level of interest rates should not cause significant damage to the outlook.
Return of the debt crisis?
It would, however, be dangerous to be complacent over the situation, especially if there is a significant increase in bond yields.
The ECB monetary policies have been crucial in keeping the Euro-zone sovereign debt crisis at bay during the past two years. As monetary policy becomes less supportive, however, there will also be a risk that the debt crisis will be re-ignited.
In these circumstances, there would be the risk of fresh turmoil in the Spanish economy, especially if the Greek debt crisis re-ignites.
Competitive position less favourable
The Euro has regained ground against the dollar with a recent move above the 1.20 level in EUR/USD compared with levels below 1.0500 which prevailed at the beginning of 2017. The stronger Euro will have a significant negative impact on Spanish export growth during the next year.
Goods exports should be broadly resilient, especially as items such as fresh produce are difficult to substitute.
There are likely to be greater concerns surrounding the services and tourism sectors which are more vulnerable to holidaymakers switching destinations to countries such as Turkey.
UK tourist visits under threat
There will be particular concerns surrounding the Euro advance against Sterling which is liable to have an important impact in undermining tourist arrivals from the UK given the sharp increase in costs. Any further dip in tourism revenue would have an important impact on damaging growth prospects.
Brexit talks will continue to be an important focus during the year with the UK government needing to reach a deal by late 2018 in order to secure the necessary parliamentary approval by March 2019 when the UK is due to leave the EU.
Any breakdown in talks would hurt Sterling which would further undermine Spanish exports.
There would also be the risk of a wider loss of confidence in the Euro-zone outlook which would tend to damage the Spanish economy. Our overall Euro and Sterling forecasts indicate that damage will be limited.
Real estate still supported by low-interest rates
The level of interest rates will continue to have a pivotal impact on Spain’s real-estate market. As the ECB monetary policy becomes less aggressive, interest rates will tend to increase which will make conditions less favourable within the Spanish real-estate market.
Nevertheless, the most likely outcome is that interest rates will remain low which will offer significant protection to the real estate market.
Catalan threat still not resolved
The Spanish government has still not been able to find a solution to the Catalan political situation. There is a strong separatist movement in Catalonia and the Madrid government has not been able to find a political solution.
The government has blocked attempts by the Catalan government to hold an independence referendum, but there is still an important risk that political tensions will spike higher once again during the year.
There have continued to be demonstrations and rallied calling for independence and there is an important risk that Brexit negotiations during the year will intensify tensions surrounding Catalonia and undermine international market sentiment.