Spain’s deficit to fall below Germany’s for the first time in two decades
Spanish fiscal position aided by political paralysis
Spain will run a smaller budget deficit than Germany for the first time in almost two decades next year in a reversal of the two countries’ fiscal fortunes.
Europe’s fourth-largest economy, once a major casualty of the Eurozone crisis, has trimmed its deficit after years of robust growth and higher tax revenues.
Spain’s deficit is set to fall for the fifth year in a row to 2.5 per cent of GDP in 2025 and decrease to 2.3 per cent next year, according to the latest forecast from the Bank of Spain.
Germany’s deficit will rise from 2.3 per cent this year to 3.1 per cent in 2026, according to the German Council of Economic Experts, an independent group of advisers to the government. Analysts expect it will rise closer to 4 per cent in subsequent years.
Some 17 years since the end of the Eurozone debt crisis, the former crisis countries Portugal, Italy, Ireland, Greece and Spain, once branded “PIIGS” by some analysts, are on a better fiscal trajectory than the countries that helped stabilise the bloc: Germany and France.
In France, governments have collapsed over unpopular attempts to lower its budget deficit by cutting government spending.
“The different fiscal trajectories show how much the pecking order between euro area countries has changed since the euro crisis,” Karsten Junius, chief economist at Swiss private bank J Safra Sarasin, told the Financial Times.
Spain’s improving economic prospects have fuelled a rally in its government debt, mirrored by Italy and Greece.
That has pushed down the additional interest rate on Spanish 10-year debt over benchmark German Bunds — a key measure of market anxiety — to about 0.5 percentage points, their lowest since before the Eurozone debt crisis, when they topped six percentage points.
Spain now pays lower borrowing costs than France, a country viewed for a long time as one of the safest Eurozone borrowers. Despite the expected widening in its deficit, Germany’s debt remains the Eurozone’s haven asset given its strengths as the bloc’s biggest economy, which has a lower burden than larger global peers, including the US.
From the launch of the single currency in 1999 to the debt crisis, Spain experienced a multiyear boom, allowing it to run lower budget deficits than Germany in the decade to 2007. But a combination of high growth and low interest rates culminated in a housing bubble and a subsequent banking crisis.
The country tapped European bailout funds for €41bn in emergency loans at a time when Germany was reluctant to save seemingly profligate southern European peers.
Spain has now become one of the fastest-growing large developed economies, with average quarterly GDP growth of 3.9 per cent since the start of 2022, compared to Germany’s 0.3 per cent. For 2026, the IMF forecasts 2 per cent growth, just below the 2.1 per cent it predicts for the US.
“The investment cycle in Germany has faltered while investment has boosted Spanish GDP,” said Melanie Debono, an analyst at London-based macro advisory firm Pantheon Macroeconomics.
Spain’s expansion is driven by a combination of immigration, tourism, low energy costs and public spending including EU funds.
The Spanish government predicts it will this year post its first primary surplus since 2007 — a measure that excludes interest payments on debt and costs related to floods in Valencia.
Ironically, its fiscal position is being aided by political paralysis. Prime Minister Pedro Sánchez’s minority government has been unable to muster the parliamentary votes to pass a new budget, leaving the country operating on a rolled-over version of its 2023 spending plans.
That has prevented the government from introducing any major new spending plans, although it has been able to raise outlays on defence by taking advantage of some flexibility within the budget rules.
During the Eurozone crisis, Spain was running deficits of up to 11.5 per cent of GDP a year, causing its overall debt levels to balloon from about 35 per cent of GDP in 2007 to more than 100 per cent.
However, total government debt in Spain remains high, equal to 100.4 per cent of GDP according to the IMF, while Germany’s debt is 64.4 per cent of its economy’s size.
Miguel Sebastián, a former Spanish industry minister who is now an economics professor at Madrid’s Complutense University, said: “Spain’s debt-to-GDP ratio is still too high and that will significantly reduce room for manoeuvre if and when there is a recession. That is a problem.”
The Bank of Spain warned in its latest financial stability report last week that high levels of overall debt created a “vulnerability for the Spanish economy”, limiting the room for manoeuvre in the next crisis and exposing the state to the risk of higher interest rates.
Germany ran budget surpluses of up to 1.9 per cent of GDP in the six years to 2019. While its level of public debt is close to the 60 per cent stipulated by EU fiscal rules, the country’s public infrastructure started to suffer from an investment backlog that has resulted in unreliable railways, crumbling motorway bridges and military forces with ammunition for just two days of war.
Russia’s invasion of Ukraine, Donald Trump’s second term as US president and the lingering infrastructure crisis led to a historic political U-turn in Berlin, with new chancellor Friedrich Merz loosening the tight constitutional debt brake which limited borrowing to 0.35 per cent of GDP a year.
The new rules opened the door to up to €1tn of debt-funded infrastructure and defence spending over the next decade.
But Merz faces criticism for using some of the borrowing to fund welfare and tax cuts. “The opportunities arising from [the debt-funded investment funds] must not be squandered,” warned Monika Schnitzer, chair of the GCEE last week.