Spain's Current Account Deficit Continues To Rise in May 2008

Spain had a current account deficit in May 2008 of 9.423 billion euros, up 11% on the 8.492 billion euros registered in May 2007. According to the Bank of Spain this deterioration is due to three factors, an increase in the goods trade deficit (oil, since in general imports are falling), and a growing deficit on the income account (payments of dividends on equities and interest on loans, structurally not good news, but if you will borrow so much money, what can you expect?) and an increased deficit in the current transfers heading (migrant remittances). As far as the trend in the current account deficit goes, during the January to May period the total deficit was 50.144 billion euros, while in the same months of 2007 the total was 43.738 billion euros. This is a year on year increase of approximately 15%. Below you will see a chart for the deterioration in the income flow, which has been substantial, and is unlikely to improve anytime soon:



This rate of increase in the CA deficit is considerably down on the 26.3% increase registered over January to March 2008 quarter, but is still significant. With Spanish GDP likely to be near stationary in 2008 the % of Current Account deficit to GDP is set to rise significantly.



On the other hand since the economy is now slowing and the cost of oil falling, it is reasonable to assume the Spainsh current account (and trade) deficit will shrink going forward. In the absence of much stronger export growth, which looks highly unlikely given Spain’s lack of competitiveness and softening global demand, for the deficit to start to correct, imports will have to decline as a result of weak domestic demand.

This correction in the trade deficit has already been happening, but it has been obscured by the rise in the oil price. The non-energy trade deficit improved by an annualised EUR15bn, or over 1.0% of GDP, in Q1. However, the energy deficit increased by almost as much, leaving the total trade deficit little changed. Some of the improvement in the non-energy deficit was undoubtedly seasonal since the deficit normally improves in Q1. However, in EUR terms the improvement this year was three times that seen in Q1 during the last four years.

The impact of a change in the underlying import dynamic may well be important in the future. Imports amount to around a third of Spanish GDP. Therefore every one percentage point off import growth adds around one third of a percentage point to GDP growth. Alternatively, consider that net trade has subtracted on average 1.25pp from annual GDP growth from 2004-2007. Basically withoutout oil Spain's trade and current account situation would now start to improve. However the oil price is likely to limit the reduction in Spain’s external balance. In 2007, the total trade deficit equalled 9.4% of GDP. Of this, 6.2% was the ex-energy deficit and 3.2% came from energy. Now assume that the ex-energy trade balance improves to a deficit of only 4.0% of GDP in 2009. If on the other hand the oil price means the energy trade deficit rises, lets say to 5.4% of GDP from 3.2%, then this would leave the total trade balance (and similarly, the current account deficit) broadly unchanged. That is to say a good deal of Spain's future in the medium term depends on the price of oil, and even though oil is falling back from the previously very high levels as global growth slows it is hard to be very optimistic that we won't see prices surge back up again should growth once more accelerate.

Other items worthy of note in this month's data are the fact that foreign banks sent funds into Spanish deposits again in May, which enabled Spanish banks to also transfer funds back out of Spain. More importantly perhaps, the liabilities of the Spanish banking system with the eurosystem were up again in May, and sharply, by 15.869 billion euros.

The Trade Deficit

To get some idea where we are here, it is perhaps worth mentioning that the goods trade deficit was 7.202 billion euros in May (that is to say only slightly up from 7.131 billion euros in May 2007). Oil represents roughly 50% of this deficit. Goods exports were up by an annual 3.8% in May, and imports by an annual 3%. The services surplus was 2.283 billion euros (up from 2.002 billion in May 2007). Over the January to May period the goods deficit was 38.855 billion euros (up from 33.919 billion euros in January to May 2007), while the aggregate services surplus was 7.131 billion euros (up from 6.033 billion euros in the same period last year).


The negative income balance was up in May, to 3.817 billion euros, compared with 2.776 billion in May 2007. The balance on current transfers (which contains of course remittances from migrants) was a negative 687.9 millon euros, a deficit which was up around 17% on the 587.8 millon euros registered in May 2007. Again, as the Spanish economy slows it will be interesting to see how the remittances are affected.

The capital account had a positive balance of 963.7 millon euros, down from the 238.1 millon positive balance registered in May 2007.


The Financial Account


This large deficit in the Spanish current account - which resulted in a net financing requirement of 8.460 billion euros (up from 8.255 billion in May 2007) was basically covered by an increase of 12.885 billion euros in funds enetering Spain from the exterior (up from 7.032 billion euros in May 2007). This essentially meant that the liabilities of the Bank of Spain with the Eurosystem reduced by 3.443 billion euros compared with an increase in liabilities of 3.622 billion euros in May 2007.




Spain's net external financial balance with the rest of the world improved at least on paper in May due to a net inflow of funds to the tune of 12.885 billion euros (as compared with a net entry of funds of 7.032 billion euros in April 2007). This increase in the inflow of external funds is very large indeed (and we will look in detail at some of the ingredients below), but the end result is that the net indebtedness of the Bank of Spain vis-a-vis the rest of the world was down by 2.487 billion euros in May (as compared with the net reduction of indebtedness of 1.836 billion euros in May 2007). The inflow of funds was due to a considerable extent to an increase in portfolio investments in Spain in May, and to a lesser extent to an increase in loans to the Spanish banking system.


Direct investments saw a net outflow of 1.896 billion euros, which was down on the net outflow of 11.072 billion euros in May 2007. Portfolio investments saw a net inflow of 15.898 billion euros (compared to 10.194 billion euros in May 2007). This was mainly due to a very large inflow of funds into Spain from the exterior to the tune of 14.400 billion euros (15.618 billion euros in May 2007).


If we now come to repos, loans and deposits, the importance of these flows declined in May over April, and there were net inflows in May of 2.749 billion euros - while in May 2007 there were net inflows of 8.713 billon euros. Flows in and out of deposits at banks and other financial instutions are far and away the most important item here (about two thirds of the total, loans constituting most of the rest, while repos are pretty insignificant at this level).

The bottom line is that in May there was a movement of funds by Spanish financial institutions into deposits outside Spain to the tune of 8.893 billon euros while, on the other hand foreign investors moved funds into Spanish deposits and lent funds to the tune of 11.642 billion euros. As a result the lines on the chart below spike up again in April, although much less sharply than in January/February. Now let's see what happens in May.