Spanish unemployment: One of Spain’s most vexing problems is its 21 per cent unemployment rate. The cost of hiring an employee is one of the key reasons for the dismal state of the labour market. Reducing it should be the priority of any government. This may be harder than it looks.
Spain’s tax wedge — the difference between what a company pays workers and what they receive — is nearly 40 per cent. That’s five percentage points above the OECD average. Social security contributions account for a large part of that gap.
The government has already taken some steps to partially reduce the burden on employers. It has proposed a new training contract for the young (defined as up to the age of 30) that eliminates the social contributions for smaller companies opting for the scheme. A more radical variant has been proposed by entrepreneur Martin Varsavsky. To jumpstart hiring in 2012, he suggests the government cover the cost of social security charges, as well as dismissal costs, for net new employees hired in 2012. This temporary measure would be phased out over five years. In the short term, the plan would save the government money in unemployment benefits and bring in more revenue, thanks to higher consumption.
Spain’s employment problem may eventually require radical action. But the usual problem with this type of plan is that it is hard to prevent arbitrage from employers, which will try to find loopholes. Creating a group of lower cost workers could lead to distortions in the labour market — and in the case of temporary schemes, the effects may not last.
The government could also consider a general and permanent reduction in the tax wedge. The cuts would be financed by an increase in value-added tax (VAT) in the short term, as has been done in other countries, like Germany. On paper, the benefits would be significant: Reducing social security contributions by 3.5 percentage points, compensated by a two-point increase in VAT, could create up to 280,000 new jobs, according to estimates by BBVA in 2009.
The socialist government already raised the VAT rate to 18 per cent last year. Going much higher risks weighing on consumption at a time when the Spanish domestic economy is weak. But Spain’s VAT rate is lower than the EU average. The next government must take more tough decisions to get Spain back in working order. This should be one of them.
