El Pais Spain

Economy to motor ahead at close to full throttle on buoyant domestic demandSolbes unconcerned by impact of modest rate hike by ECB

The OECD is predicting Spain's economic bonanza will continue for some time to come, with economic activity expanding at close to full steam over the next two years.

In its half-yearly Economic Outlook report released yesterday, the Paris-based Organization for Economic Cooperation and Development forecast that Spain's gross domestic product would grow 3.2 percent this year and 3.3 percent the following after a rise of 3.4 percent this year. That compares with growth in the 30-member OECD of 2.9 percent in 2006 and 2007 after an increase of 2.7 percent this year.

"Growth (in Spain) should remain strong in 2006 and 2007, close to potential rates (slightly above 3 percent), driven by buoyant domestic demand and some-pick-up in exports following recovery in Europe," according to the report.

Economic activity in the euro area, which is the main destination of Spanish exports, is set to accelerate to 2.1 percent next year and 2.2 percent the following, after posting growth of 1.4 percent this year.

Commenting on the report, Spanish Economy Minister Pedro Solbes said the OECD's evaluation of the Spanish economy was in line with the government's. The next two years would continue to be "good," but he warned that reforms to boost productivity and further modernize the country were needed to ensure growth was sustainable in the long term.

Solbes said it was also "reasonable," as predicted by the OECD, for domestic demand and construction to slow somewhat. This, he said, would help bring about a recovery in the foreign sector.

The OECD report forecast that domestic demand will ease from 5.0 percent this year to 4.1 percent in 2006 before picking up again to 4.4 percent in the following year. Net trade, the difference between imports and exports, is still expected to be a drag on overall growth, albeit to a lesser extent next year compared with this year.

Persistent inflation
The OECD highlighted inflation as one of the reasons behind the weakness in the export sector. "Headline inflation is expected to abate somewhat after its recent hike, and core inflation should remain broadly stable, but the differential with the euro area is likely to persist, further eroding competitiveness," the report said.

According to a preliminary estimate released yesterday by the National Statistics Institute, the harmonized index of consumer prices (HICP) was up an annual 3.4 percent in October down from 3.5 percent in November.

The OECD is predicting the HICP to end this year at the level posted in November, about one percentage point over the rate in Europe, before slowing to 3.0 percent in 2006 and 2.8 percent in 2007.

Higher interest rates
A number of Spanish officials have welcomed clear signals from the European Central Bank that it will raise interest rates at its monetary policy meeting on Thursday as a move that would help dampen domestic demand and inflationary pressure in Spain. The OECD, however, took a broader view, arguing that the ECB should maintain interest rates at the current record low level of 2 percent until the European economy is more "resilient." At the same time, it said the threat of so-called second-round effects, whereby higher inflationary expectations lead to higher wage demands in a price spiral, were not sufficiently strong to justify an immediate rise in rates.

Solbes noted if the ECB were to raise rates by a quarter of a point it would have little impact on Spanish households' monthly mortgage payments.

"The most logical thing would not be to follow such an aggressive policy as that adopted by the US Federal Reserve," he said in an interview with Spanish television channel Antena 3. "We should be thinking more along the lines of modest increases ... of a quarter of a point, at most half a point over the course of a year."