See what happens when a housing boom turns to housing bust and you\’re locked into a currency bloc?
Mr Ruiz said the construction sector will shrink from 18pc of GDP at the peak of the boom to around 5pc, making it unlikely that there will be any significant recovery before 2012. Even then growth will be \”slow, weak, and fragile\”.
The Spanish government can do little to cushion the downturn. \”The room for manouvre in fiscal policy has been exhausted,\” said Mr Ruiz.
The rocketing cost of jobless benefits has added 3pc of GDP to the budget deficit. Mr Zapatero has ordered all ministries to cut 8pc of discretionary spending to help plug the gap left by collapsing tax revenues. The axe is likely to fall on research and big projects such as high-speed railways.
The root cause of Spain\’s trouble is that it joined monetary union before its economy was ready. EMU halved Spanish interest rates almost overnight. Real rates were minus 2pc for much of this decade. Combined private and corporate debt reached 230pc of GDP, funded by French and German savings.
The credit boom masked a steady decline in productivity over the last decade. Spain\’s unit labour costs have risen by about 30pc compared to Germany.
The Bank of Spain made heroic efforts to counter the effects of the bubble by forcing banks to put aside extra reserves, known as dynamic provisioning, but the sheer scale of the problem has washed over the defences.
Spain no longer has the escape valve of devaluation to claw back market share. It cannot resort to emergency monetary stimulus – as Switzerland, Britain, the US, and Japan are doing to prevent the onset of debt deflation. Prices are already falling at a rate of 1.2pc.