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Cablegate: Spain Unveils Buoyant 2006 Budget

This record is a partial extract of the original cable. The full text of the original cable is not available.

211128Z Oct 05

UNCLAS SECTION 01 OF 02 MADRID 003684

SIPDIS

SENSITIVE

EUR/WE FOR GARY CLEMENTS
STATE PASS TO TREASURY - TRACI PHILLIPS

E.O. 12958: N/A
TAGS: ECON EFIN SP
SUBJECT: SPAIN UNVEILS BUOYANT 2006 BUDGET

REF: MADRID 3460

1. (U) SUMMARY: Second Vice President and Minister of Economy
Pedro Solbes Mira presented the Socialist government's
general state budget to Congress on September 27. The budget
prioritizes increasing productivity and reducing public debt.
The five pillars of the budget are research, development, and
innovation (R&D&i), infrastructure, education, Official
Development Assistance, and public services. Solbes forecast
a budget surplus of 0.2% of GDP, and a 7.3% increase in
government spending. The budget assumes growth of 3.3% and
inflation of 2%. The budget takes risks by assuming that
interest rates will hold at 2% and that the average crude oil
barrel price will be 55 USD. END SUMMARY.

Introduction
------------

2. (U) Second Vice President and Minister of Economy Pedro
Solbes Mira presented the Socialist government's draft budget
to Congress on September 27. The stated goals of the overall
budget are to reduce public debt and to increase
productivity, goals not unlike those of the 2005 budget.
Solbes also announced a five pillar strategy for
prioritization of spending. While other EU member states
struggle with budget deficits, Solbes forecast a small budget
surplus of .2% of GDP for 2006. The small surplus is possible
due to a 9.8% increase in direct tax revenues and social
security contributions. The increase in contributions is due,
in part, to an immigration amnesty program for more than
600,000 illegal immigrants that has brought a large part of
the underground economy out into the open. As a result,
government revenues are forecast to be up 8.4%. Government
spending is slated to increase 7.7%.

Approval Process
----------------

3. (U) Spanish law requires approval of the budget from both
houses of Congress prior to implementation. Solbes' budget
must be debated within the Chamber of Deputies, a process
during which amendments can be made. Following this, the
budget will be sent to the Senate for its own debate and
approval process. The Senate will then send the budget back
to the Chamber of Deputies for final approval. If the budget
proceeds through both houses of Congress according to the
government's schedule, it should receive final approval
during the last week of December. Spending limits outlined in
the 2005 budget will be carried over into 2006 if the budget
is not approved by the end of the year.

Winners
-------

4. (U) Solbes' 2006 budget has a basic five pillar strategy.
The first is improved productivity through greater investment
in research, development, and innovation (R&D&i). Funding
destined for R&D&i is to be increased by 29.7% for a total
investment of 6.5 billion euro. In reality, only 4.8 billion
euro of this amount will go to civil R&D&i, with the rest
allocated to defense research, contributing to criticism
about the GOS' commitment to support an increase in R&D&i.
Total spending will still account for only slightly over 1%
of GDP, far from its goal of 2% by 2010.

5. (U) The second pillar calls for an increased investment in
infrastructure in order to further improve productivity.
Plans are to increase spending 12.4% over 2005, for a total
of 12.8 billion. The increase in the infrastructure
allocation will partially compensate for the loss of EU
structural funds that contributed to the construction of
Spain's modern road network.

6. (U) The third pillar, education, will receive a 16.6%
increase, the majority of which will be allocated to
secondary education. Prime Minister Zapatero had promised
that education would be the "star" of the 2006 budget. The
debate continues as to whether or not the proposed increase
will be sufficient to address the concerns of the current
education administration.

7. (U) The fourth pillar is an improvement in the quality of
public services, which will receive a 9.9% increase in 2006.
The main priority within this pillar is a reorganization and
modernization of the Justice department, which will receive
12% more over 2005. Salaries in the armed forces and
judiciary will also be raised 8% next year, supporting the
government's hopes to increase armed forces recruitment
levels.

8. (U) An increase in Official Development Assistance (ODA)
is the final pillar. Direct ODA spending is proposed to
dramatically increase by 57.1% to a total of 681.46 million
euro. Total ODA spending would account for .35% of GDP. See
reftel for more detailed information on the proposed ODA
increase

Losers
------

9. (U) Most programs previously funded will not experience a
decrease in net spending in 2006. However, a number of
organizations and public entities will lose funding,
including: the Spanish Patent and Trademark Office (-18.8%);
the Gerencia de Infraestructuras y Equipamiento de Defensa,
the government agency that manages the railways and defense
equipment, (-15.6%); the Nuclear Security Council (-5%); the
National Statistics Institute (-2.0%); and other
miscellaneous state foundations (-15.11%). Miscellaneous
economic programs will also lose 12.1%. Two autonomous
regions will also lose funding in 2006, the Baleares
(-10.12%) and the Basque Country (-3.66%). On an interesting
note, in spite of Solbes' proclaimed goal of reducing public
debt, funding to pay off the debt is reduced in the 2006
budget by 9.6% from 2005.

Assumptions in the Budget Process
---------------------------------

10. (U) The budget is based on 2% inflation and a predicted
3.3% economic growth rate for 2006, a rate that remains much
higher than the EU average. A somewhat more risky assumption
in the budget is that interest rates will remain at 2%, which
is unlikely given recent statements by the European Central
Bank. Further, the budget assumes an average crude oil barrel
price of 55 USD, well below the current market rate. In fact,
soaring oil prices led to a near doubling of Spain's current
account deficit in 2005 to 33 billion euro or 7.5% of GDP.

Political Context
-----------------

11. (SBU) Solbes has been vocal in stating that this year's
budget is the first true reflection of the PSOE socialist
government's priorities, claiming that the 2005 budget was
influenced by decisions made by the previous conservative PP
government. The socialists are likely to gain from a
decision to hold both corporate and personal income taxes
steady, with the caveat that ceilings on brackets will be
raised by 2% to allow for inflation.

12. (SBU) Catalonia will be one of the main beneficiaries of
spending on infrastructure. The perception that the PSOE
government is placating the Catalan regional government in
order to avoid further political separatism may create
resentment amongst the other regions. However, the socialists
are a minority government and must rely on the support of
smaller parties such as the left-wing Catalan ERC party in
Congress in order to guarantee approval of the draft budget.
Nonetheless, the Catalan regional government maintains that
is being shortchanged in per capita spending when compared
with the autonomous community of Madrid.

Economic Context
----------------

13. (U) Spain is in its 10th year of uninterrupted economic
growth boosted by improved fiscal management. Low interest
rates accompanied the arrival of the euro which has also
fueled cheap credit and a housing and construction boom.
Property prices have risen by more than 150% since 1997.
Fears linger that the overpriced housing market, coupled with
the growing debt burden of Spanish families, may lead to a
decline in economic growth. Spain is also losing its
competitive edge, as unskilled manufacturing jobs migrate to
Eastern Europe and Asia, and tourism faces the increasing
popularity of cheaper foreign destinations.
AGUIRRE

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