When financial markets started to show some signs of distress in August 2007, the conventional view was that the Spanish economy had “solid fundamentals” and, despite the high debt and the imbalances accumulated during the pre-crisis period, it was resilient enough to the international financial shocks that back then were thought to be the sources of the economic slowdown. This confidence was however built on factors that eventually resulted to be either inexistent or insufficient: (1) a fiscal surplus and low public debt that would supposedly provide wide scope for countercyclical demand policies; (2) reasonably flexible product and labor markets that would allow to gradually and smoothly unwind the excesses of the past and other macroeconomic imbalances, and (3) a banking system with large capital buffers and supposedly protected of the US subprime crisis that originated the early financial turmoil (to be discussed in Sect. 3). This conventional view, shared by many economic commentators, the Spanish Government of the times, and some international organizations, was based on the traditional paradigm under which exogenous shocks are at the origin of economic fluctuations, on the confidence in countercyclical demand policies to smooth slowdowns in economic activity, and on the belief that the Spanish labor and product markets, after a sequence of reforms in the 1990s and early 2000s and the large influx of immigrants, were flexible enough to accommodate a recession without significant losses in production capabilities.
An alternative view was skeptical both about the benign interpretation of the implications of the financial crisis, and about the supposedly strong fundamentals of the Spanish economy. This view stressed that the Spanish economy was very dependent on external financing and, therefore, very likely to suffer a sudden stop as soon as the favorable international financial conditions worsened, that the very high levels of private debt were only sustainable with unending increases in housing prices and higher productivity growth, and that reforms of the product and labor reforms, together with the easy access to credit, had created a allocation of resources very much biased towards non-tradeables, and, specially, towards the construction and the real estate sectors. Other sources of concern were that macro policies (monetary and fiscal) were deemed to have been not sufficiently countercyclical during the expansion, so that during the crisis they were bound to be constrained, that changes of the regulation of product and labor markets were not properly evaluated and, that, after the initial signs of an economic slowdown, neither macro nor micro polices seemed to react with promptness and guided by a correct diagnostic of the situation. In fact, the expansionary fiscal response in 2008–2009 was misguided and very counterproductive, as it exhausted any scope for expansionary fiscal policies when they were eventually more needed.
As a result, some observers perceived that the correction of the external imbalances was bound to be very difficult and potentially abrupt, especially given the gloomy growth forecasts and the inability to appeal to exchange-rate devaluations as an adjustment mechanism. In sum then, the Spanish economy was about to suffer, not a mild slowdown somehow smoothed out by demand policies, but a long and protracted period of adjustment punctuated by periods of severe financial distress. Indeed, under this view, since the problem was the unsustainable financial position of the private sector, the adjustment was unavoidable, and would have taken place even without the US subprime crisis or some other developments affecting negatively to the global economy.
Nowadays, these two alternative views of the crisis still receive much attention. Caruana (2014) has labeled them the “shortfall of demand view” and the “balance sheet view”, and, after considering evidence and deriving the policy prescriptions that would follow from each one of these two views, concludes that the latter seems to provide a better explanation of the crisis overall, although, in his opinion, “the diagnosis has to be country-specific” (sic).
Thus, turning more deeply into the Spanish case, in this Section we lay out a first component of the answers to two questions: (1) What made the Spanish economy so prone to suffer the speculative boom of the 1995–2007? and (2) Where were the main sources of that speculative boom?
Labor market institutions and the composition of production
During the pre-crisis period the Spanish economy developed some characteristics that made it especially prone for a housing bubble. The two most relevant ones were a banking sector that was capable of capturing external funding to transform it into mortgage credit; and a construction sector, which after the large infrastructure investments of the 1980s and 1990s, supported partially by European structural funds, had enough capacity to expand and deliver an increasing influx of new houses and infrastructure works. Demographics trends—immigration and emancipation of the late baby boomers—provided a further boost to housing demand, which was expanded by a very favorable tax treatment of house ownership, and by the traditional way of financing self-employment and small businesses through the use of real assets as loan collateral. Ironically, these two strengths nurtured a housing bubble, and once the process started, it gained momentum, sustained by strong feed-back effects. For instance, changes in banking and land regulations provided further impulse to the speculative housing boom. These changes were not always in anticipation of the negative consequences of the speculative process, which, as shown by Fernandez-Villaverde et al. (2013) and Santos (2014), provided incentives for the generation of financial assets of not very good quality, complicated monitoring and policy evaluation, and facilitated the entrenchment of interest groups and lead to a deterioration of governance institutions.
Some of these negative political economy effects were notoriously felt in the poor regulation of the labor market. By allowing for temporary and fixed-term contracts under, de facto, a wide array of conditions, this regulation favored seasonal activities and the creation of short-duration jobs, very prevalent in the construction sector, but a the cost of promoting very inefficient job turnover in the rest of the sectors. In general, labor market regulations are the result of a political process in which both efficiency and equity considerations are taken into account (Bertola 2014). However, it happens very often that these regulations are tailored out to fit the peculiarities of the economic structure of a given country, for instance, with a dual employment protection legislation (allowing for fixed-term, temporary contracts, besides the regular, open-ended employment contract) to lower the hiring and firing costs of sectors with presumably high job turnover (tourism, construction, etc.) This strategy fails to realize that, by doing so, jobs, in that sector but also elsewhere, will be predominantly created under the schemes most favored by the legislation (fixed-term, temporary contracts). Therefore, and as basic economic textbooks show, what a country produces and how does it, are determined not only by endowments of physical and human capital relative to the rest of the world, but also by labor and product market regulations.
Hence, the sectoral composition of production is not an exogenously given constraint that produces a particular mix of employment contracts. It is the availability of temporary employment contracts (among other factors) what influences the sectoral and occupational composition of employment, how many jobs are created and destroyed, and, last but not least, which socio-demographic groups are more likely to be hired and fired.
Another particularly important consequence of product and labor markets regulation was to be felt in productivity developments. Since the early 1980s the Spanish economy enjoyed a huge increase of physical and human capital. However, during the period 1995–2007 labor productivity and TFP growth rates were, in annual averages, 0.7 and 0.0 %, respectively. This was also the period in which the unemployment rate came down from almost 20 % in 1994 to around 8 % in 2007. At those times, many commentators and international organizations praised the liberalization of the Spanish labor market, for paving the way for high employment growth and causing the huge reduction in unemployment. But others (see, for instance, Bentolila and Jimeno 2006) remained unconvinced about the advantages of increasing flexibility a the labor market by creating a dual structure with a high prevalence of fixed-term contracts, while at the same time maintaining a wage setting system that protected insiders with real wage rigidities, and expressed concerns about the sustainability of low unemployment rates once the extraordinary macroeconomic conditions of the times changed. There were also concerns about how the Spanish labor market was reacting to long trends in the world economy, such as skill-biased technological progress, globalization, and increasing migration.
The paper by Anghel et al. (2014) on employment polarization is especially relevant in this regard. It focuses on changes in the occupational employment shares, highlighting how during the period 1997–2012 several socio-demographic groups adapted to those changes. As it has also been shown in other countries, they find a decline in the share of occupations involved in routine tasks, and a rise of those with non-routine service contents, both at the low and the high tails of the wage distribution, while jobs with a higher degree of abstract contents do not appear to increase their share in total employment during these 15 years. Four other findings are worth highlighting: (1) these developments are not only the consequence of the sectoral reallocation of employment, associated to the increasing weights of the construction and non-tradeables sectors, since they took place within almost all the industrial sectors, (2) this trend accelerated during the great recession, (3) affected males and young workers more strongly than to females and old workers, because of higher concentration of the latter in occupations more focused on routine tasks, and (4) changes in the composition of labor supply by educational attainments cannot explain the increase in the share of occupations at the low end of the wage distribution. Although employment polarization of this type is typically thought to be associated to skill-biased technological progress (see Autor and Dorn 2013), Anghel, de la Rica and Lacuesta show that the response of the Spanish labor market to this phenomenon displays important peculiarities that seem consistent with a segmented labor market offering low opportunities to stable, high value added jobs, and displaying inefficient job turnover.
Wage and employment dynamics
The institutional configuration of the Spanish labor market did not only contribute to the housing bubble and the concentration of resources into non-tradeables. It also explains wage and employment dynamics during the crisis, with wages initially displaying a strong downwards rigidity, and a large share of employment losses coming from employees under fixed-term contracts.
Two of the papers in this issue focus on wage determination in the Spanish labor market. First, De la Roca (2014) uses longitudinal data from the Social Security registers to gauge the degree of cyclicality of real wages in Spain throughout the period 1988–2011. He does so by, first, estimating the net present value of wages in new matches to show that it is well approximated by the cyclicality of wages for newly hired workers, more than 95 % of them under fixed-term/temporary contracts. Secondly, he highlights that this margin of wage adjustment is the main one under the Spanish wage determination system, given the constraints imposed by collective bargaining legislation. Finally, despite that margin of flexibility and the finding that the response of wages of workers under temporary contracts is twice as large for workers under permanent contracts, de la Roca estimates that the response of wages to a 1 % decline in the (lagged) unemployment rate is about 0.4 %, which is the lowest among available estimates for other developed countries (between 1.3 and 1.5 % in the US and between 2.0–2.2 % in European countries). Thus, as expected, institutions that make difficult for firms to respond to business cycle fluctuations deliver a much higher degree of wage rigidity, and it is wage rigidity, together with the prevalence of temporary contracts, what explains the huge employment losses registered in the Spanish economy during 2007–2009, in contrast with the small changes in employment in other countries where labor market regulations were more conducive to changes in working hours, labor hoarding, and wage adjustments (see Casado et al. 2014).
The second paper on wage and employment dynamics is by Sala and Trivin (2014). They study why employment fluctuations in the Spanish labor market are so volatile, by applying (Blanchard and Katz 1992) methodology to estimate how unemployment, participation, migration flows, and prices react to regional employment shocks. They confirm previous results in this literature (see, for instance, Bentolila and Jimeno 1998): changes in participation rates are the main adjustment mechanism in expansion, while unemployment and labor mobility are more important during recessions, with migration flows being larger in high-unemployment regions. The estimation of the differential importance of the three variables during expansions and recessions, the consideration of the response of prices to labor demand shocks, and the additional disaggregation by two groups of regions (one including Catalonia, Madrid, Navarra, and the Basque Country, and the other one grouping the rest of the regions) are the main contributions of the paper. Regarding prices, the main finding is, once more, that strong real wage rigidities, arising from the determination of nominal wages and consumer prices, are present both in expansions and in recessions.