The Spanish economy after the COVID-19 crisis. Economic policy priorities

Jesús Fernández Villaverde, Tano Santos and Luis Garicano

On 31 March 2020 at 18.30, the Rafael del Pino Foundation is organising a live dialogue via the Internet on entitled "The Spanish economy after the COVID-19 crisis. Economic policy priorities" in which Jesús Fernández Villaverde, Luis Garicano and Tano Santos will participate.

Jesús Fernández Villaverde has been Professor of Economics at the University of Pennsylvania since 2007 and is a member of the National Bureau of Economic Research (NBER), the "group of one hundred" and the editorial board of relevant national and international publications. He holds a degree in Law and Economics and Business Administration from ICADE and a PhD in Economics from the University of Minnesota.

Luis Garicano is an MEP, Vice-President of Renew Europe and Spokesperson of this group in the Committee on Economic and Monetary Affairs of the European Parliament, member of the Center for Economic Policy Research. He holds a degree in Economics and Law from the University of Valladolid, a Master's degree in European Economic Studies from the College of Europe in Bruges, a Master's degree in Economics and a PhD from the University of Chicago. Luis Garicano has developed his extensive teaching career at the University of Chicago and London School of Economics, where he has been a tenured professor and professor; he has also been Director of the Center for the Digital Economy at IE Business School; he has also been a visiting professor at MIT and London Business School. He has also held positions as an economist at the European Commission and at McKinsey & Company.

Tano Santos is David L. and Elsie M. Dodd Professor of Finance at Columbia University and Co-Director of the Heilbrunn Centre for Graham and Dodd Investing. Dodd Professor of Finance at Columbia University and Co-Director of the Heilbrunn Centre for Graham and Dodd Investing. Professor Santos completed his Ph.D. at the University of Chicago in 1996. From 1996 to 2003 he was a professor at the University of Chicago Business School, joining Columbia University Business School in 2003. His research ranges from asset valuation to organisational theory. His publications include three articles in the Quarterly Journal of Economics, two in the American Economic Review and two in the Journal of Political Economy. Tano Santos reinforces CEMFI's academic team in the area of finance.


On 31 March, the Rafael del Pino Foundation organised the online dialogue on "The Spanish economy after the COVID-19 crisis. Economic policy priorities", with the participation of Jesús Fernández Villaverde, Professor of Economics at the University of Pennsylvania; Luis Garicano, MEP and Vice-President of Renew Europe, and Tano Santos, David L. and Elsie M. Dodd Professor of Finance at Columbia University. Dodd Professor of Finance at Columbia University. According to Tano Santos, there are two policy issues to consider in this crisis. These are the health measures to be taken and the economic and social impact of these measures. The ultimate weighting to be given to these two issues is the job of the politician. Economists provide estimates of the direct economic impact of these measures, but the weighting between economic cost and public health considerations is something that has to be done by the politician, who, in a democracy, is the one who aggregates the preferences of citizens. For Luis Garicano, there is little choice on this point. If the virus is not eradicated, there can be no talk of economic recovery. This is especially important for a country like Spain, whose economic structure is very much based on tourism, on the hotel industry, on going out and being with other people. The problem is that nobody will want to come to such a country for tourism if the virus has not been eliminated. In his opinion, there are smarter ways to combat the coronavirus than confinement. Therefore, the first key economic measure is to move towards smarter confinement and using technology, especially mobile phones. Then, we need to avoid the mistakes of the Great Recession, partly by doing the spending now that needs to be done to insure businesses, the self-employed and workers, and then by making a smart economic recovery based on public spending so that the crisis is not as harsh as last time. For his part, Jesús Fernández Villaverde recalled that there are countries that have made efforts to follow specific cases, use internet applications, mass testing techniques, etc. For example, one of the tests that has been recovered is how syphilis tests were carried out in the US army during the Second World War. What was done then was basically to put groups of twenty soldiers together who were tested at the same time and if no one in that group tested positive, the risk was known to be eliminated and those particular soldiers could be sent off to do things. Regarding economic policy, Fernández Villaverde continued, it is always said that generals fight the previous war, not the current one. In this case, there are similarities with the 2008-2009 crisis, but there are also differences. One important difference is that that crisis was more of a demand crisis and this one is more of a supply crisis. In 2008, for example, the financial system collapsed and, as a result, there was no money to buy pencils, so the companies that manufacture pencils suffered. Now the problem is different because the people who go to work to make pencils cannot do it. Therefore, the government saying that it is going to buy pencils does not solve anything because the pencils are not being produced. So we have to think about how to relax the very brutal supply constraint that we have. The government has a very important role to play in relaxing this supply constraint, as well as redistributing income in such a way that those most affected have a safety cushion, but being aware that we are fighting a different war than in 2008-2009. Tano Santos added that these are two different problems. The problem of the financial crisis was difficult to solve, but the problem was relatively identified. It was a solvency problem in the financial sector, with a need to recapitalise certain sectors of the economy. The question was where the money was going to come from to carry out this recapitalisation. But now things are very different because the problem is very diluted in a wide variety of sectors, which are going to suffer from this in a very different way depending on the type of sector in question. So we are going to have a crisis in a very asymmetric way, where we are going to have to think about how to help sectors and how to restart the economy piecemeal. Another very important issue, he added, is that there is an urgency in the remission of the public health crisis, because people are not going to go out again until they feel safe, not only in terms of risk of infection, but also about whether the health sector will have the capacity to treat it and to avoid the most terrible scenarios. To do this, we need to stabilise the economy and build the capacity of the public sector to ensure that, if people get sick, they can be treated properly. Jesús Fernández Villaverde added, in this respect, that what we have to do is to start to stay ahead of the crisis, not continue to lag behind. In a certain sense, in Spain, exactly the same thing has happened as with the financial crisis. In 2008 it was said that the financial crisis was an American thing, that we had the most solid financial system in the world. That was said verbatim. Now it has been said, in February, that the coronavirus was totally under control. So, for once in our lives, we must start thinking about where we want to be in May, June and July. The only way we can have a plan in May that works is to sit down now and think about how to restart the economy. Also part of the government should stop being so preoccupied with the day to day and start thinking about where we are going to be in May. Those who think about these issues in the longer term tend to achieve better results. Luis Garicano considers, in this respect, that the plans that have been implemented in Spain have lacked strategic vision. There is a first moment in which everything is ignored. Then, the government became aware of the situation and made a plan that allowed the economy to freeze, so that people, the self-employed and companies had a cushion. From there came the idea of promoting temporary lay-offs (ERTEs), whereby the worker remains linked to the company, but without being paid by it. This was a good idea, similar to what other countries are doing. Six days later, the government did a radical about-turn on the whole thing, which shows a complete lack of strategy. Suddenly, the Minister of Labour comes out talking against the self-employed and companies, saying that they want to take advantage, putting obstacles in the way of all the adjustments, really making the ERTE unattractive by saying that the day after the state of emergency is over, all the workers have to be rehired. On that day, companies will no longer have the demand they had before the crisis. In this second phase, the government is adopting plans that are very different from those of the rest of the world, plans that are very populist, very ideological and that have little to do with the needs of the Spanish economy, which are for companies, workers and the self-employed to get through this slump. Jesús Fernández Villaverde added that any policy to get out of the crisis must also have a very important aspect of obtaining data. We still don't know how many people are affected in Spain. It is very different to think about how we are going to get out of this situation if we don't know whether we have 1% infected, 5% or 10%&. This is important if we think, as in Germany, that once many workers have antibodies these people can start working. We have to think in two directions. On the one hand, we have to think of a plan that allows companies and workers to weather the storm as best they can. On the other hand, a health perspective that allows us to have a more intelligent management than the risky decision to close all non-essential economic activities. This is due to a lack of perspective on how long this situation will last. The problem is that we are not going to see significantly better numbers until the end of April or early May. At the moment we are in the situation we have to educate and explain to the public that we have to have a little patience. As people are getting nervous, more and more populist measures are not going to help. Tano Santos insisted on the need to build sufficient capacity in the health system, not only in the sense of having enough intensive care units, but also to have the technology to smooth out the different rhythms at which the different sectors will be reactivated. We need to allow those sectors that are going to take time to recover to have much lower costs of these adjustments, because they are going to spend much more time without activity, for example, leisure and tourism, because it is going to take longer for people to return to cinemas, restaurants, football stadiums, and so on. He also distinguishes two phases in the action being taken by the government. First, there is a sensible phase, in which there are certain positive measures, such as direct aid to the most disadvantaged families, or maintaining the liquidity of SMEs in order to maintain as much of the pre-crisis productive structure as possible. But then there are other more dubious measures, which have indirect implications in other sectors, and also political implications, such as, for example, the mortgage moratorium. As the crisis deepens, there will be a temptation to polarise and politicise economic policy measures. This is worrying and must be avoided at all costs. When talking about economic policies to relaunch the economy, Luis Garicano indicated that the problem of sovereign debt is the one that worries us all. According to him, we could end the year with a public debt of between 120% and 140% of GDP, depending on how much GDP falls. In order to finance the recovery we are going to have to issue a lot of public debt. This will leave us with a very heavy debt burden. That is why we want Europe to participate and collectively assume part of that risk, which remains entirely on the State's balance sheet. That burden is going to change our standard of living for quite some time, because it is a lot of debt for very little time. He hopes that Europe will assume part of the cost, and also that, with the help of the European Central Bank, Spain will not lose access to the markets. Jesús Fernández Villaverde commented, in this respect, that we are now going to pay for what we have not done in the last six years in terms of fiscal consolidation and that we were going to need fiscal leeway if a new crisis arose. More than the absolute level of debt, what matters to markets is the consensus within the country about the need to reposition fiscal policy in the medium to long term. Countries like the UK that have needed to go to the markets in the past and borrow 200% of GDP have done so because the markets believed that the political consensus in the UK that they would repay the debt was overwhelming. More than the level of debt of 120% or 130%, what worries him is that we are going to see populists saying that the debt is not repayable. But they forget that, if we go to a deficit of 15% or 20% of GDP, that deficit has to be financed, and even if we stop paying the interest on the debt, we still have to finance that imbalance. That is what the markets are going to be most concerned about. They are going to be more concerned about the kind of irresponsibilities that are going to be said in the coming months than the absolute level of debt. That said, the absolute level of debt is important and when this is over a 25-year fiscal policy plan should be drawn up. Tano Santos explained that the lack of fiscal consolidation is due to a tremendous lack of political consensus on the things that need to be done to achieve this fiscal consolidation. Part of the problems we are experiencing is due to the inability of states to build fiscal reservoirs that allow them to react to crises such as those we have experienced in the last ten years. He also commented that Europe has mechanisms that can be used to facilitate the indebtedness of sovereign states and, in turn, facilitate the purchase of sovereign debt by the European Central Bank. For example, the European Stabilisation Mechanism, which can follow the model of granting credit with very focused conditionality on all aspects of public health and, at the same time, allow borrowing at a subsidised interest rate. This would have to be complemented by debt purchases by the ECB. This would limit the interest rate at which we will be able to finance ourselves and make the whole thing more sustainable. It could also be important, even if only symbolically, to help at the European level by issuing bonds dedicated exclusively to resolving the public health crisis. In his opinion, however, the way to resolve this crisis will be through the use of instruments such as the European Stabilisation Mechanism. With regard to changing the production model, so that it is based more on new technologies, Jesús Fernández Villaverde said that this process must be based on a broad consensus. Countries that have had to face very difficult budgetary situations in the past and have come out ahead did so because they were able to reach major national agreements. For example, the Netherlands during the 1970s and early 1980s, or the Scandinavian countries. Those national consensus plans on the fiscal sustainability path are important for ourselves, as a way of knowing where we have to go, as a way for voters to know that there is a clear plan that they can support, as a way for the markets to know that the money we are borrowing from them is going to be paid back, as a way to negotiate with our European partners. We still have a credibility problem. These days it has been very easy to get into the papers with Germany or the Netherlands. But if he were a voter in the Netherlands he would tell Spain that you went into expansion in 2013 and in February 2020 you still had a very large public deficit and, what is more, there has been a set of economic policy measures in the last two years that did not make much sense. So tell me now why I am going to lend you that money. The only credible way for us to ask for that money is through that national consensus. Tano Santos added that, in the process of building the European Banking Union, a certain mutualisation of certain national risks is taking place at the European level. When the government approves the mortgage moratorium, it is transferring part of the economic policy it is carrying out to stabilise the economy to the banks' balance sheets. But the consequences of this is that, now, this risk is not in Spain. It is elsewhere. This is going to confirm in the minds of many of our partners that, if we really want to make progress in the mutualisation of risks, we will have to transfer additional sovereignties to Brussels to coordinate the economic policy response to a crisis that affects Spain and Italy, or Denmark and Germany, unequally. This is something that has not been taken into account. We cannot take a measure of this magnitude and then expect the Europeans to help us resolve our crisis. These policies must be coordinated from the outset and take into account what they imply in terms of risks, in this case for the banking stability of the entire Eurozone. Luis Garicano pointed out that there are two things at stake here. On the Spanish side, we will either have the nationalist, populist, etc. path, or we will have the good path. There is no time to lose. There is no time to lose. We cannot play the culture war as we have been doing. This is a good time to get back on the right track. But there is also another moment of life and death, which is that of Europe. Europe, right now, is in question, for the right and wrong reasons. If we think of Italy, the country has had three very curious crises this year. The first was with Europe, when they did not want to approve the clauses of the treaty creating the European Stability Mechanism because there were clauses that seemed to them to be savage, something that did not happen in other countries. Then, when Lagarde made her unfortunate statements a fortnight ago, but which did not make the news in other countries, while in Italy they were the revolution. And, now, Italy shows us again that people are fed up with Europe because they think it is leaving them alone. In Spain there is a similar movement, but smaller. If, at this moment, Europe does not show solidarity, does not show its support for the Member States, we can gamble everything. If, on the other hand, Italy and Spain are not willing to be the reliable partners we should be, then we are also at risk. This is a truly defining moment. Europe can respond positively by centralising some taxes and going into debt collectively to protect countries. If that is not possible, there may be no more Europe. Jesús Fernández Villaverde continued along these lines, saying that Europe needs a much more coherent structure. We have to move forward, but this effort has to come from everyone. In Spain there is still not a process of internalisation on the part of many voters that we have not fulfilled what they have asked us to do over the last few years. Something has been done, but not everything that should have been done. Tano Santos also joined this line, saying that there is a lack of forward thinking. We continue to move forward in deepening the European institutions in times of crisis, forcing people to do things, but there is a limit. What is being asked to be done now is a very important qualitative step forward. Mutualising when you know that the credit quality of all member states is very different is still a problem. Credit quality depends not only on the level of debt one has, but also on production capacity, tax collection, implicit liabilities in the social security system, different structures in the labour market and pension systems, and so on. This inadequacy remains unaddressed. There are still many national political economy constraints because these contracts reflect national policy, not European policy. So we are going to interact a need to solve problems that have a European side based on national constraints. Luis Garicano tried to put a positive spin on this issue because it is also true that, as we see that the tragedy is becoming more generalised, that we see that it is not just Spain or Italy, it is becoming more feasible to adopt joint solutions. In the last few days we have seen that public opinion in other countries is turning towards the idea of taking more account of the need for solidarity, of solving problems together. As to whether this situation could lead to a multi-speed Europe, Jesús Fernández Villaverde expressed concern about this idea. He said he does not mind that there are different speeds on secondary issues because there are countries that care about different things. To explain his concern, he used a historical example. In the United States, there was a similar problem between the North and the South over how to organise the US economy, in this case around slavery. The solution, in the end, was to homogenise rather than separate. If you start with a two-speed Europe, countries will drift further and further apart and, in the end, it will break up. He said he was in favour of a much more coherent union, but this requires leadership which, at the moment, does not exist in either the north or the south. In the European discourse he is also concerned that too often a certain sentimental appeal to the idea of Europe is used instead of having a detailed and concrete plan on how we are going to solve this. The discourse is often "Europe is the solution", but what does that mean? In the United States this was solved when James Madison showed up in Philadelphia in 1787 with a plan, the so-called Virginia Plan, well articulated. What worries him is that there is a lack of such leadership in Europe. Tano Santos, for his part, said he was a fan of the Eurocrats, the people in Brussels making technical plans that, in a way, incorporate many of the constraints of political economy, who think about first, second and third order problems. Europe works relatively well because it has an administrative class that knows how to operate under national political economy constraints. What is needed is a vision of where they want to go and what needs to be done to get there in terms of transfers of sovereignty and reforms of key institutions. The problem is that many countries, including Spain, are being asked to reform in exchange for who knows what. The possibility, for example, of generalised unemployment insurance at European level at a percentage is a fantastic idea that establishes a lot of solidarity between Europeans, but it requires certain reforms in the labour market, because there are countries like Spain that have a labour market with enormous cyclicality, while there are other labour markets, such as Germany's, that have less cyclicality. Clearly, the Germans want to enter into a mutualisation of the risks connected with unemployment with countries that have similar structures so that transfers do not always go in the same direction, but are allowed to go in both directions. This is how insurance works. Right now, in the political leadership, there is a lack of that imagination to establish feasible objectives and the sequence of reforms that we are going to establish in each of the member countries in order to arrive at European institutions such as mutualised unemployment insurance. On this subject, Luis Garicano pointed out that the European Commission is studying an unemployment insurance of 100 billion for national unemployment insurance linked to the crisis. Regarding the world after the pandemic, Jesús Fernández Villaverde commented that, the coronavirus being as terrible as it is, this could have been much worse. We could have had a virus jump from an animal to a human being that, instead of having a fatality rate of 1.5%, which is what this virus seems to have when you can actually test everybody, it could have had a fatality rate of 10%. Because of globalisation, humanity finds itself, more than ever, subject to a number of existential risks that did not exist before. The first thing we have to do, as Europe and Spain, is to sit down and think about what we have to do with these existential risks, because this can never happen again. Tano Santos added to this idea by commenting that this crisis reinforces pre-existing dependencies. Whether we like it or not, the state is going to play an increasing role in our economies. For example, from the point of view of risks, it is difficult to see how the state cannot play an important role in insuring society against a risk like the one we are seeing right now. So it is going to have a very important role in terms of the capacity of the health system, transfers and so on. But there was already enough evidence that the state has to play an important role, for example, in everything related to the obsolescence of human capital as a consequence of technological shocks. This is the role that the state has been playing in recent years as the insurer of last resort, which basically has to come in and guarantee people certain levels of welfare as a consequence of these gigantic shocks that affect the whole economy, both through the delocalisation of the productive system, and the sudden change that can occur in global value chains, given the ease of redistributing capital in different countries, etc. So the role of the state as the ultimate insurer is going to increase. Another thing that worries him is that, even in economies with such strong recoveries as the United States or Spain, there are huge fiscal deficits. And part of sustaining economic activity is because the state has been driving it through these large fiscal deficits. One of the things that may be happening in a state that wants to maintain full employment is that it may have to be doing it through continuous fiscal stimulus. There are high returns to capital, but they are not labour-intensive, for example in the IT sectors. In contrast, those sectors that are labour-intensive have very low returns to capital, both in economies such as the US and Spain. As a consequence, the state has to take an active role if the objective is to maintain full employment. Luis Garicano added that the management of globalisation is a key issue. All this happens because there is a single episode of transmission of the virus to a human. The management of globalisation, therefore, is key. We are going to travel less, we are going to have a lot more videoconferencing, tourism is going to change. The role of the state is also going to change. And, closely related to these two issues, there is a third: privacy. What has just happened to us is unthinkable, that the State would tell us that we had to stay at home and we would stay at home was unthinkable six months ago. Now we have stayed and we are saying that we have to use much more technology to fight the coronavirus in a smarter way. In other words, the state is going to know where we are at every moment of our lives to avoid these contagions, at least for as long as it lasts. So the third big change is that privacy is going to have a completely different dimension. People are going to be willing to give up a lot of key ideas in exchange for their security. These changes are very important for Spain's productive model, because its economy is very much based on tourism, the hotel and catering industry, leisure, etc.

The Rafael del Pino Foundation is not responsible for the comments, opinions or statements made by the people who participate in its activities and which are expressed as a result of their inalienable right to freedom of expression and under their sole responsibility. The contents included in the summary of this conference, written for the Rafael del Pino Foundation by Professor Emilio González, are the result of the debates held at the meeting held for this purpose at the Foundation and are the responsibility of the authors.

The Rafael del Pino Foundation is not responsible for any comments, opinions or statements made by third parties. In this respect, the FRP is not obliged to monitor the views expressed by such third parties who participate in its activities and which are expressed as a result of their inalienable right to freedom of expression and under their own responsibility. The contents included in the summary of this conference, written for the Rafael del Pino Foundation by Professor Emilio J. González, are the result of the discussions that took place during the conference organised for this purpose at the Foundation and are the sole responsibility of its authors.