Spain - not the end of the fiesta!

The outlook for the Spanish economy has continued to strengthen but Spain will face headwinds following the latest regional elections that saw anti-austerity parties make material gains across the board.  What are the risks and real estate implications? 

15th June 2015

The outlook for the Spanish economy has continued to strengthen.  Real GDP grew by 1.4% and is forecast to grow by 2.7% this year.   Nonetheless, Spain will face some headwinds following the uncertainty triggered by the latest elections.  The stock market fell by 3.0% following the outcome of the elections; the euro lost ground and the sovereign debt bond yield rose to 1.86% from 1.60% a couple of weeks before.

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The analysis below gives an update on key factors affecting the investment outlook in Spain and our top Spanish market, Madrid.

The Political Earthquake in Spain and Madrid

On 24th May, elections took place in 13 of Spain’s 17 regions and in more than 8,100 municipalities.  After decades of stable majorities and single-party governments, political power in Spain’s regions has moved from a two-party regime into a much more volatile four-party regime.

This political shift in Spain comes amid deep anger amongst the voters at a string of corruption scandals along with lingering disappointment over the past recession and the country’s high unemployment rate (23%), despite the ongoing recovery.  The traditional centre-right Popular Party (PP) and centre-left Socialist Party (PSOE) together gathered only slightly more than 50% of the vote.  Conversely, the newly founded anti-austerity party “Podemos” (literally “We can”) and the centrist party “Ciudadanos” (literally “Citizens”) are on track to enter regional parliaments in force in several key areas, meaning they may be key in forming the next government.   This election has provided a key indication of the national mood ahead of the general elections to be held at the end of the year. 

It is likely, given the current conditions and opinion polls, that no political party will be able to form a government on its own.  If this is the case, a two-party coalition will be necessary to secure a majority.  Depending on the coalition, this could mean, in the worst case, an end to structural reform, undoing much of Spain’s progress since the crisis.

Finally, left-wing parties have made material gains in Madrid and Barcelona, the largest cities in Spain.

Economic activity in Madrid outperformed Spain

The political leadership of Madrid is significant for Spanish and European politics.  Madrid is the third largest city in Europe after London and Paris, comprises 10% of the Spanish GDP and has the third largest metro GDP in the EU.

  • Output growth in Madrid increased by 3.5% p.a. over the past 20 years compared to 2.2% for the whole of Spain.
  • Income per head is 30% higher than the national average and the city’s workers are more productive.  In terms of output growth (Chart 1), Madrid, has systematically outperformed the national average since 2009.
  • The tertiary sector – related to retail and other services – and the hotel sector have grown faster  than the average regional GDP since early 2013, given past initiatives of the former local public authorities.
  • In 2013 the Community of Madrid promoted the Retail Tourism movement to develop new sources of income. The initiative was intended to promote the city as a pure shopping destination and position it as a benchmark in prominent tourist markets, especially in Asia. 
  • The campaign has sparked significant growth in Madrid’s service sector (Chart 2) with the number of tourists increasing by 22% since 2013.  The average number of nights increased by 25%, which means that the average length of stay also rose.  Tourists spent a total of €1.2 billion in 2013 and an estimated €1.35 billion in 2014.  Madrid is now the ninth most visited city in Europe, attracting more than 5.2 million foreigners with the highest annual rate of growth in tourists.

Various pre-election leading indicators, including opinion surveys relating to activity and prospects, suggest that Madrid will continue to outperform other regions in Spain, including the wealthiest, the Basque Country.  In Q1 2015, Madrid employment rose by 4.6%, the highest figure recorded across all Spanish regions (Chart 3).  Employment in Madrid is now 8% higher than at its recent cyclical low.  In spite of this, the PP has lost power and concern in the real estate industry is increasing, as any policy measures might focus on the property market first.

Real estate implications of the latest elections

  • For Retail property, it is likely that the current local government will be more selective regarding shopping centre extensions or any new developments given the current high level of supply in some sub-markets.  This is good news over the medium term.  The bad news would be a potential review of Sunday opening hours, as it would put pressure on retailer turnover growth.  We believe this is unlikely, as it would jeopardise local employment growth. 
  • Our local sources point to the fact that some buyers are postponing large transactions until the general election in November.  Some investors are negotiating prices down for smaller office or retail deals, highlighting the perceived rise in the country’s political risk.  Given the elevated level of activity in the current market, less competition would be good news for investors with a positive outlook.

  • In relation to the residential markets, the Madrid Municipality could suspend or delay evictions- a strong, symbolic and popular measure.  We believe this is likely.  This would have a direct impact on offers currently made by specialised funds for credit packages with real estate as collateral.
  • Future major projects could be under review, such as the District Castellana Norte. This is a large urban development plan in Madrid (more than €6 billion) aiming to transfer the centre of the city from Puerta del Sol to the North,  agreed by the former PP.  The project might be delayed but the new local government is likely to sustain the project given as it has local support.
  • In terms of the credit markets, property companies, as well as many other companies that finance their activities by issuing bonds will face more challenging conditions than before the elections. The main Spanish SOCIMIs (a type of Real Estate Investment Trusts) are already under pressure from shareholders, but this might be more due to past disappointing investments than due to the recent election results.

If no viable political outcome is found after the general elections, financial conditions will be tougher and there would be a clear drag on the economic recovery. From an average expected output growth of 2.4% from 2015 to 2018, to 1.6% with a potential mild recession in 2016, as a downside scenario. The downside is not our baseline case. Spain has come a remarkably long way from the depths of the crisis and, in many ways, is a model for others in Europe’s periphery.  However, the turmoil in Greece triggered by Alexis Tsipras’s party who came into power on a left-wing platform shows the risk inherent in undoing crisis-era reforms.  This should act as a warning to Spanish voters that a premature break with austerity does not always lead to prosperity.

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