Rajoy's government is facing several key problems, one of which is wide-ranging social protests, such as the March 29 strike. Despite these protests, the government presented a budget March 30 that is expected to cut some 30 billion euros ($40 billion) of spending, including deep reductions in health and education spending. These come on top of 15 billion euros ($20 billion) of cuts announced in December 2011. The austerity measures likely will incite more unrest; cuts to the education budget in February gave rise to protests in Valencia that were violently suppressed by the police.
Another problem with which the Spanish government must contend is increased tensions with Spain's autonomous regions. The tensions stem from a law enacted in January that allows tighter government control over these regions' budgets, which they saw as an intrusion on their autonomy.
Moreover, Partido Popular suffered a March 25 electoral defeat in Andalucia, Spain's most populous and poorest autonomous region. The ruling party was expecting an easy victory in this traditionally socialist stronghold, but it only won 50 of Andalucia's 109 seats, allowing a coalition between the former ruling Partido Socialista Obrero (Socialist Workers' Party) and Izquierda Unida (United Left) to retain control over the region. The unexpected defeat is already causing friction within Partido Popular.
Spain's relationship with EU leadership also is becoming increasingly strained. In February, the European Commission expressed its discomfort with Madrid's decision to delay the release of Spain's 2012 budget. The delay was an electoral strategy; the government was afraid that the announcement of spending cuts before regional elections could turn voters away. Then in early March, Rajoy announced that Spain would not meet its original 2012 budget deficit goal of 4.4 percent of gross domestic product (GDP) and unilaterally established a new goal. While Brussels and Madrid eventually agreed on a softer deficit target — 5.2 percent of GDP — the decision was seen as a symptom of the declining credibility of EU enforcement mechanisms.
With the highest unemployment rate in the European Union — 22.9 percent in the fourth quarter of 2011 — and an economy that is in recession, according to the latest Bank of Spain report, Spain is not likely meet its deficit targets in 2012 or 2013. Moreover, since spending cuts are proving to be socially unsustainable and politically dangerous, Spain is likely to soften its austerity policies and loosen its deficit goals even further. This, in turn, is likely to bring bond yields up and put Spain closer to asking for a bailout.
In recent months, however, Madrid has shown its willingness to use the risk of a Spanish financial contagion on Italy and Portugal as leverage against the European Union. This strategy is likely to take place in the context of an EU-wide relaxing of fiscal discipline. France and Germany will be distracted by domestic issues during the second quarter of the year, which will considerably slow the European decision-making process. As northern European countries face the question of how to deal with their own budget deficits, their legitimacy to push for more austerity in the periphery will be reduced. In this context, Madrid is counting on Brussels to become more indulgent and allow Spain to set a more flexible fiscal policy.
