Spain – Signs point to storm ahead in conflict with Catalonia

Spain – Markets respond negatively to rising tensions between Catalonia and Madrid

Last Sunday, a referendum on independence took place in Catalonia despite a lack of legitimation. Due to the obstacles put in place by the central government (including, among other things, the closure of polling sites) voter turnout was rather low, at around 40%. Since mainly supporters of independence seem to have voted, the large approval rating of around 90% is no big surprise. Due to a lack of readiness for talks, the fronts have hardened during this week. A meeting of the Catalan parliament is scheduled for Monday, October 9, and independence might already be declared in the course of this meeting. However, the constitutional court in Madrid has already outlawed the planned session on Monday. According to media reports, the Catalan parliament intends to ignore this ban. During the weekend, further demonstrations from both sides in Madrid and Barcelona can be expected.

Financial markets have already responded to the escalation of the situation with an increase of spreads for Spanish government bonds (with a term of 10 years) vs. German bonds with the same duration. In addition, the euro suffered slight losses vs. the USD. Any attempt by the Catalans to declare their independence unilaterally would deepen the crisis further. Observers expect that the government in Madrid would dismiss the regional government in such a case (which would again generate some ugly scenes), in order to put Catalonia temporarily under the direct control of Madrid. Furthermore, the leaders of the Catalonian parliament could be charged in court. A backlash on the streets of Catalonia would be the logical consequence in such a scenario and financial markets would react quite negatively.

The longer the political crisis continues, the bigger the economic consequences will be. An independent Catalonia would no longer be part of the EU, according to statements from representatives of the EU. This would, in our opinion, have far-reaching negative consequences for the entire economy of Catalonia. Many companies would quite likely move their headquarters into the EU (probably Spain), which would trigger capital outflows from Catalonia. Catalonian bank Banco Sabadell for example has already decided to move its headquarters out of Catalonia to Alicante in Spain. Another open question is what would happen with the euro. Some states use the euro as their official currency without being a member of the EU (e.g. Andorra, Monaco or San Marino), but these are rather small and furthermore rely on a formal agreement with the EU as well as a member state of the Eurozone. Given the size of Catalonia's economy, it seems likely that it would be difficult for it to keep the euro as a currency without any formal agreement.

Realistically, Catalonia's government has to try to expand its autonomy by seeking dialog with Madrid. In order to do that, however, Madrid demands that the Catalan government has to return to the rule of law. The current situation has quite likely already weakened the Catalan economy and the longer the crisis lasts, the more severe the economic consequences.

US labor market report: Lower unemployment rate, stronger wage growth should be decisive for markets

The impact of the hurricanes on non-farm payrolls was significantly stronger than markets had expected. Non-farm payrolls fell by 33,000. Markets had expected a gain of 80,000, already a significant deterioration compared to the initially reported gain of 156,000 in August, which was revised upwards to 169,000. The unemployment rate on the other hand clearly brought a positive surprise and declined from 4.4% to 4.2%, whereas the market had expected an unchanged number. The biggest surprise came from hourly earnings. Here, an increase of 0.5% compared to the previous month was reported. Markets had expected 0.3%. Additionally, growth rates for previous months were revised upwards, resulting in a yearly gain of 2.9%, whereas the market's estimate had been a mere 2.6%.

In total, the positive surprises in the labor market report released today prevailed, in our view. Today's numbers point to a tightening labor market and confirmed expectations for higher interest rates in the US. We expect the next rate hike in December.

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