Lessons of Spain and Portugal

In "International Herald Tribune" Tuesday, July 19, 2005

As the European Union strives to integrate new members from Eastern and Central Europe, it faces some of the same concerns raised 20 years ago with the admission of two less developed states from the West: Spain and Portugal.

Letting in two poor countries that had recently shed repressive governments would stifle the Union's economic growth, drain jobs from more developed members and send a wave of immigrants across the Pyrenees, critics said.

Those fears turned out to be exaggerated, in part because they underestimated the transforming effects of EU money. Richer members, principally Germany, provided strong financial support each year to help Spain and Portugal develop and catch up with the rest of the bloc.

Now, as the EU debates diverting much of that aid to the poorer members admitted last year, the experiences of Spain and Portugal offer useful lessons on how to spend the money - and how not to. There is widespread agreement among scholars in both countries that Spain has generally invested the funds more productively than Portugal.

"You can look at it from a number of angles, and you can see that the funds have stimulated the Spanish economy in effective ways," said Paul Isbell, an economics analyst at the Elcano Royal Institute of International and Strategic Studies, a nonpartisan research organization in Madrid. "If you look at Portugal, you don't see the same beneficial effects."

In Spain, the benefits of the funds are evident in the modern infrastructure, improvements in worker productivity, increases in per capita income and an expanding economy.

The funds have also helped Spain soften the effects of some unpalatable structural changes, like liberalizing the labor market and privatizing state-owned industries.

Portugal, by contrast, has mainly used the funds to expand its economy - but without modernizing it to address most protracted problems, including a growing budget deficit, a bloated public sector, rampant tax evasion and inadequate educational system, scholars say.

Instead, political pressure from an influential web of small-town politicians seems to have diverted the money to strengthening infrastructure in rural areas rather than making investments in cities that could have created freer flows of goods and people.

As the former Communist countries vie for subsidies like those that Spain, Portugal and other earlier EU entrants enjoyed, there is little evidence that they are contending with similar pressures from local leaders. But Portugal holds a cautionary tale for countries like Poland, where there are signs that disputes over how to spend the money have cropped up in regional governments, delaying the spending of some structural funds.

"Portuguese economists agree that the country has used the resources as a way to postpone the hard decisions," said Sebastián Royo, a professor of government at Suffolk University in Boston who has written extensively on the integration of Portugal and Spain into the EU.

Now, Portugal's budget deficit is estimated at 6 percent to 7 percent of gross domestic product, government wages account for about 15 percent of GDP, and the country's level of educational attainment is among the lowest in Europe. Since joining the euro zone, which comprises 12 members, Portugal has been reprimanded twice by the European Commission for excessive deficits, while Spain has been a model member.

Portugal's prime minister, José Sócrates, who was elected in February, appears to be committed to enacting the reforms that economists say should have been pursued years ago. But with the Portuguese economy in a slump, the job will be much harder for Sócrates than it would have been for his predecessors.

What is more, the way Portugal has used EU funds appears to have worsened some of its problems. It accelerated government hiring during boom times instead of freezing it, for example.

"As the economy grew very fast, especially in the late 1990s, the public sector became a form of patronage," Royo said.

Today, about one of every seven workers in Portugal is a government employee who, under the Constitution, cannot be fired.

Portugal has made great strides since joining the EU in 1986. Before the EU expansion last year, to 25 from 15, Portugal's per capita income had risen to 75 percent of the EU average, from 55 percent.

Over the same period, Spain's per capita income has increased to almost 90 percent of the EU average, from about 70 percent. The Spanish economy, meanwhile, is speeding into its 12th consecutive year of growth, while Portugal is mired in debt and struggling to pull out of a recession.

Although management of EU funds is only one factor in these differing results, many experts seem to agree that it is a significant one.

While other countries offer clear examples of proper and improper management of EU funds, the similar geographies and histories of Portugal and Spain make it easier to isolate the effects of their recent actions.

Both countries joined the EU in 1986, a decade or so after emerging from dictatorships. Although the two had taken important steps toward modernizing their economies before joining, their economies were still rigid and highly reliant on agriculture at the time.

Both countries also invested the majority of their EU development funds in the same area: infrastructure. The Portuguese have directed about 90 percent of their funds to building and modernizing highways, airports, railroads and seaports, while the Spaniards have spent about 70 percent on such projects. Yet the results have been vastly different.

"The infrastructure in Spain is nearly first-class," said Isbell, the economist at the Elcano Institute.

Spain's roads and railroads are not only modern but also well laid out, helping to knit the country together so that poorer regions, like Andalusia, in the south, can connect with more developed ones, like the Madrid area.

That development has enticed more companies to set up operations in the poorer regions, where the cost of doing business is often lower, and has made it easier for companies already established there to reduce costs, attract investors and expand beyond local markets.

In Portugal, there is no comparable highway network linking its poorer regions with wealthier ones, increasing the chances that economic growth will continue to be uneven. Portugal has also failed to connect its highway systems to those in Spain, leaving it isolated from the main currents of European commerce.

"In Europe, lots of goods are moved around by truck," Royo said. "If you look at a map of Spain, the roads all go north. Portugal has not had the infrastructure linking it with Europe."

Portuguese infrastructure is not only poorly planned but in surprisingly poor condition, given the amount of money spent on it, scholars say.

"In Spain, you can see the new highways, the airports, the nice roads," said Royo, the professor. "In Portugal, the infrastructure is not in good shape at all. You look around, and you say, 'Where is all this money going?"'

One possibility is that much of the money is finding its way into the pockets of government or industry officials, Royo contends. "Corruption has to be a part of it," he said. "If you are spending all that money and the infrastructure is still poor, how else can you explain it?"

Portuguese officials deny any corruption, but they concede that the funds could have been better spent.

"Portugal's administration of the funds perhaps has not been the most effective, but it has not been a corrupt one," said Crisóstomo Teixeira, a senior policy adviser at the Ministry of Public Works, Transportation and Communications. "Portugal has made investments in small roads to improve mobility of people in small towns. If you do that, you don't have much money left for big, modern highway systems. The mayors of small towns here have pressed hard for roads in their areas. That is politics, not corruption."

As the 10 states admitted to the EU last year from Central and Eastern Europe start down the path toward further integration, they are not expected to receive nearly as much aid as Portugal and Spain have. From 2004 to 2006, the new members have together been allotted a little more than 20 billion, or $24 billion, about the same as Portugal alone was apportioned for 2000 to 2006. Spain's share for this period was more than 55 billion.

In the next budget, for 2007 to 2013, funds for the new members are expected to increase, while Spain and Portugal's shares will dwindle. But as Spain and Portugal have made clear, the degree to which new members successfully develop their economies and integrate them into Europe depends more on the individual states than on Brussels.

"It's not so much how much money you get," Royo said.

"It's how you spend it."

Part one of this series is available on the Web at www.IHT.com.