Catalonia not so good

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Why is the referendum illegal?

The Spanish Constitution states that Spain cannot be broken up. The Article 2 in the preliminary part of the Constitution states: ” The Constitution is based on the indissoluble unity of the Spanish Nation, the common and indivisible homeland of all Spaniards”. The Spanish Constitutional Court suspended the law passed by the Catalan parliament at the start of September to organise the referendum.

What is needed to change the Spanish Constitution?

Article 167: For an ordinary reform of the Constitution you need:

  • If this fails, an overall majority in the Senate (upper house) and a two-thirds majority of both houses (joint in Congress) are needed.
  • Once approved, one-tenth of the members of either house can ask for a referendum to ratify the changes within fifteen days.

Article 168: For a total or substantial reform of certain parts of the Constitution – such as the preliminary part containing Article 2 mentioned above:

  • A two-thirds majority in each house is required.
  • The lower house then has to be dissolved immediately by the King and new elections for both houses take place.
  • The new constitutional text is examined by the new houses and a two-thirds majority in each house is required.
  • Finally, the new constitutional text needs to be approved by referendum.

Therefore, changing the Constitution requires significant political consensus among national parties and support from the wider Spanish electorate. The Spanish Constitution has only experienced two modifications since 1978: one in 1992 following the Maastricht treaty and one in 2011 in the midst of the sovereign crisis. In both instances, the less rigid procedure of Article 167 was used.

If Catalonia unilaterally declares independence what are the options of the Spanish government?

If Catalonia unilaterally declares independence in the coming days, one of the main options for the Spanish government would be to use Article 155 of the Constitution. The Article 155 suspends the authority of the regional government and substitutes it with the authority of the central government. The procedure is the following:

1. The Spanish PM Rajoy would lodge a complaint with the Catalan President Puigdemont.

2. If Puigdemont does not respond accordingly, Rajoy would have to present to the Spanish Senate – where Rajoy’s PP has a majority – the measures he intends to take.

3. A majority is required in the Senate to approve this government plan.

4. The Spanish government can now give direct orders to regional civil servants (e.g. police, teachers, administrative staff)

A few contextual points regarding Article 155 should be kept in mind. It has never been used in the past. The wording of the text and the lack of precedent means that the exact extent of the central government’s powers is not necessarily clear. This likely explains why Rajoy has been trying to get the political support of Spanish mainstream parties Ciudadanos and PSOE.

If Rajoy does not want to use Article 155, he may have two other options:

  • Either rely on the Constitutional Court to suspend regional officials and civil servants that do not respect its decisions.
  • Or, he may also use the Law of National Security that directly allows the Spanish PM, via royal decree, to declare a “situation of interest for national security” and organise a structure that guarantees “the defense of Spain, its principles and democratic values” via reinforced cooperation among administrations. This law was approved with the support of the PSOE and the PP in September 2015. Compared to Article 155, the Law of National Security does not explicitly mention autonomous communities and does not require the approval of the Senate. With this option, the Spanish government could avoid having to officially suspend the competencies of the regional government.

Would an independent Catalonia remain a member of the EU?

Very unlikely. The EU’s position is that if an independence referendum is organised according to the Spanish Constitution then it would be compliant with the EU framework and the EU would respect Catalonia’s choice. Catalonia would most likely have to then go through an accession process.

On 14 Sept 2017 European Commission President Juncker said: “We have always said that we would follow and respect the rulings of the Spanish constitutional court and the decisions of the Spanish parliament […] It is obvious that if there is a Yes to Catalonia’s independence – that remains to be seen – we will respect that choice […] But Catalonia will not be able to become an EU member the morning after, Catalonia will be submitted to an accession process”.

On 4 October 2017, European Commission Vice-President Timmermans repeated that the referendum was “not legal” and was “an internal matter” while adding that it was “time to talk”.

If an independent Catalonia was not formally a member of the EU, it would not formally be a member of the euro-area either and would not have representation at the ECB.

Would an independent Catalonia be successful in its EU accession process?

Very unlikely. Spain and potentially other EU member countries with strong regionalist movements would likely veto the start of formal membership negotiations. Indeed, the accession process consists of three stages:

1. Official candidacy for membership. To move on to the second stage of the process, all EU governments must unanimously agree on a framework or mandate for negotiations with the candidate country.

2. Formal membership negotiations that involves the adoption of established EU law and reforms to ensure the country meets the accession criteria.

3. Once negotiation and reforms have been completed the country can join the EU.

What is at stake and what is the solution?

Regarding the scope of a long-term solution, we discussed the issues at stake and the set of possibilities in a previous article published in Focus Europe on 15 September 2017 (see here). As we wrote, a solution to Catalonia’s independentist push would have to combine further fiscal autonomy and longterm commitment to infrastructure investment by the Central state. The Basque model is very unlikely to be replicated but an in-between solution, where the Central government also intervenes less in the Catalan legislative process, might have to be found.

Catalonia represents ~20% of Spanish GDP, and contributes to fiscal transfers towards poorer Spanish regions.

But, Catalonia is also one of the most indebted Spanish regions…

What is the political situation in Spain?

The current independentist Catalan government is held together by the desire to hold a referendum. In September 2015, early elections were held. The independentist centre-right CiU and independentist Republican Catalan Left ERC campaigned together under the Junts pel Si banner in support of independence. They had to rely on the anticapitalist CUP party to obtain a majority of seats in the regional parliament. This meant that the independentist parties had a majority of seats while collecting ~47% of the expressed votes. The alliance with the CUP resulted in the choice of Puigdemont over Mas as President. The Catalan government has since focused on organising an independence referendum.

According to polls prior to the 1 October referendum it was unclear that the independence parties would be able to achieve a majority in the event of a new election.

The majority of the Catalan electorate is left-of-centre.

But, support is divided among varying degrees of autonomy/independence agendas (see two figures below). A left-wing alliance between the ERC and the Catalan branch of Podemos could be a possibility for a Catalan government in new regional elections.

What is the national political situation?

Since the June 2016 national election (see margin chart), the current Spanish PM, Rajoy leads a minority government. He has relied on the support from Ciudadanos and the centre-right Basque independentist party PNV to pass his 2017 budget. In the weeks preceding the Catalan referendum, the PNV put its support for the 2018 budget on hold. While Rajoy has the support of Ciudadanos and opposition party PSOE to face the Catalan independentist push, the PSOE has not yet backed the possible use of Article 155. Compared to the PP and Ciudadanos, the PSOE and in particular its leader Sanchez remains more open to further autonomy for the regions. The recent developments have put the spotlight back on the difficult political equilibrium at the national level.

What are the next steps?

In the coming days and weeks, two paths can generally be devised:

Unilateral declaration of independence.

  • The Catalan regional parliament was supposed to meet on Monday 9 October to potentially proclaim independence. The Spanish Constitutional court has suspended the meeting but Catalan leaders may choose to gather the regional MPs in another location. It is unclear when a unilateral declaration of independence could be proclaimed. But if this happens Madrid would have little choice but intervene to immediately end it.
  • Tensions would likely continue or escalate and economic activity may start to be hurt at least in the short-term1.Ensuring that no violence erupts and creating an environment where new regional elections with a large participation can eventually be called would be key objectives for the Spanish government.

No unilateral declaration of independence occurs and negotiations start.

  • To do so, the Catalan leaders would have to significantly tone down the independence rhetoric. This would likely lead to a de-escalation of tensions and a change in the position of Madrid.
  • A neutral party may have to be found to accommodate the negotiations.
  • Under such a scenario, the unity of the independentist front would likely dissolve. Disagreements between centre-right and left-of-centre parties could erupt.
  • Early regional elections may have to be called once the situation in Catalonia has normalised. As described above, according to polls, the left-of-centre ERC may come out first, albeit far from a majority.

No unilateral declaration of independence and stalemate continues

  • The Catalan leaders could choose to not tone down their independence demands but continue waiting regarding the independence declaration.
  • The situation would remain similar to the one of the last few days with Rajoy waiting and not choosing to suspend the Catalan government.
  • The economic cost to Catalonia would start to rise and the political stalemate continue.

What is the redemption schedule of Catalonia’s bonds?

In the figure below, we present the maturity dates of the Catalan regional government’s bonds for the coming years.

The next redemption is on 17 October 2017 but the next large redemption is in June 2018.

Worse than I thought and therefore a greater headwind for EUR and AUD.

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