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| Not cheap enough |
| Fiona Maharg-Bravo / Jun 21, 2011, 00:33 IST |
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Spanish price wars: In Spain, price wars seem to be the order of the day. Be it mobile phone charges, a hotel room or a pack of cigarettes, the prices of many consumer goods are falling. This is an essential part of a rebalancing of Spain’s economy — but it has not yet gone far enough.
The price wars show the Spanish economy is adjusting to the new reality, at least in part. It’s bitter medicine, though. Following a decade of double digit growth, and inflation above the euro average, the economy came to a grinding halt. The consumer is in no mood to spend, given the 21 per cent unemployment rate and the high rate of household indebtedness. Retail sales have fallen for 10 months in a row, according to the national statistics office. Companies in some sectors have no choice but to cut prices at the expense of margins to try to stimulate demand.
Yet despite the price cutting in some sectors, Spain’s inflation rate at 3.5 per cent is still well above the euro area average. True, Spain imports most of its energy, where costs have climbed sharply. But strip out energy and food costs, and even the underlying rate of inflation in the first quarter of the year was 1.5 per cent, higher than many other parts of the zone.
Meanwhile, the current account deficit, though halved from its peak, has been stuck at around five percent of GDP for the last year. To close the gap, Spain must make its export products more competitive. Since Spain cannot devalue its currency to make goods cheaper to foreign buyers, prices and wages must come down. In places, they are. But wages determined by collective agreements grew 3.1 per cent in the first quarter of the year — below the headline inflation rate, but almost double the core rate.
Lowered wages could exacerbate the slump in domestic consumption in the short term and there is a danger that deflation becomes entrenched. It is also a hard message to sell to the tens of thousands protesting across Spain. But price cuts, and wage moderation, could help the economy recover and eventually create jobs. Price cuts also provide a cushion for those who might have to accept lower wages. The sooner they come, the better.
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