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AEA
29,85 The economic consequences of
Covid in Spain and how to deal
with them
90 Angel de la Fuente
Fundaci
on de Estudios de Economía Aplicada, Madrid, Spain
Received 16 November 2020
Revised 25 November 2020
Accepted 26 November 2020
Abstract
Purpose – This paper aims to review the economic impact of Covid in Spain and propose policies to deal
with them.
Design/methodology/approach – Not relevant.
Findings – The pandemic is having a very severe effect, which varies across sectors and regions. Given the
severity of the problem, a comprehensive policy strategy is needed. Specific proposals about such a strategy
are made, distinguishing between the short and the long run.
Originality/value – It provides a discussion about the main measures that have been taken to mitigate the
economic consequences of Covid in Spain and about what else should be done.
Keywords Spain, Economic impact of Covid
Paper type Research paper

© Angel de la Fuente. Published in Applied Economic Analysis. Published by Emerald Publishing

Limited. This article is published under the Creative Commons Attribution (CC BY 4.0) licence.
Anyone may reproduce, distribute, translate and create derivative works of this article (for both
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legalcode
This paper is a reduced and updated version of the final report of the Joint Working Group on
COVID-19, a team integrated by over 130 academic researchers and professionals from industry and
other organizations to analyze the economic consequences of the pandemic and propose measures to
mitigate them. The final report draws on a series of sectoral reports that are listed after the
references. The paper was prepared by a large committee. As this journal’s rules do not allow all its
members to appear as authors, only the coordinator is listed as such. The remaining members of the
committee are the following: Anna Balletbó (ArcMed Hotels and Renfe), José Luis Bonet (Cámara de
España), José E. Boscá (U. de Valencia and FEDEA), Santiago Carbó (Cunef and Funcas), José Ignacio
Conde-Ruiz (FEDEA and UCM), Ginés de Rus (ULPGC and FEDEA), Juan del Alcázar (Banco
Santander), José Ramón Díez (Bankia), Rafael Doménech (BBVA Research and U. de Valencia),
Florentino Felgueroso (FEDEA), Enric Fernández (Caixabank), María Fernández (ex CNMC), Javier
Ferri (U. de Valencia and FEDEA), José Ignacio García Pérez (UNIA and FEDEA), Marcel Jansen
(UAM and FEDEA), Juan Francisco Jimeno (U. de Alcalá, CEPR and IZA), Alejandra Kindelán (Banco
Santander), Julio López Laborda (U. de Zaragoza and FEDEA), José María Marín Vigueras (U. Carlos
III de Madrid), Clara Eugenia Núñez (UNED), Jorge Onrubia (UCM and FEDEA), Luis Puch (UCM),
Juan Pablo Riesgo (EY), Diego Rodríguez (UCM y FEDEA), Sofía Rodríguez (Banco Sabadell), Javier
Santillán (Economista), Jorge Sicilia (BBVA Research), Eva Valle (QED Economics), Javier Vega de
Applied Economic Analysis Seoane (DKV Seguros) and Xavier Vives (IESE). As in the original reports, not all members of the
Vol. 29 No. 85, 2021
pp. 90-104 committee necessarily agree with all the recommendations made in this document.
Emerald Publishing Limited Financial support from the Spanish Ministry of Economic Affairs, Industry and Competitiveness
2632-7627
DOI 10.1108/AEA-11-2020-0158 under Grant No. ECO2017-87862-P is gratefully acknowledged.
1. Introduction Economic
Like many other countries, Spain is undergoing a very complicated situation as a result of consequences
the Covid-19 pandemic. Last spring, the virus caused a very serious medical emergency that
almost collapsed our health care system. The emergency required severe confinement and
of Covid
lockdown measures that have generated serious disruptions in economic activity and in
everyday lives, including the closing of all educational centers. Although the contagion rate
declined sharply during the summer, the situation is still complicated and will not be under
control until effective vaccines and/or treatments can be made available to the entire 91
population, which may take some time. For the moment, we are entering into a second wave
of the pandemic that threatens economic recovery and could put our health system under
severe strain again.
This paper focuses on the economic consequences of Covid and on what should be done
to mitigate them. After briefly describing the channels through which the virus affects
economic activity, we provide some data on the evolution of output and employment in
Spain during the pandemic and on its incidence on public finances. Finally, we discuss the
main measures that have been taken to mitigate the economic consequences of the health
crisis and conclude with some reflections on what else should be done. We emphasize the
need to build a broad social and political consensus on the key elements of economic policy
over the next few years and outline a strategy to deal with the crisis that combines short and
long-term measures to speed up the recovery and set the foundations for future growth.

2. The effects of the pandemic on economic activity

The Covid pandemic has generated a profound economic crisis. Many countries, including our
own, are in the midst of the worst recession in many decades, with two-digit drops in income
and employment comparable only to those experienced in wartime. Declining economic activity
is causing a rapid deterioration of public finances as revenues fall sharply while expenditure
must rise to combat the infection and its social and economic consequences. The situation is
generating huge public deficits that may be hard to finance for some countries.
The drastic measures taken to contain the first wave of the epidemic in Spain included
strict social distancing guidelines and a harsh confinement and lockdown order that closed
many important economic activities during many weeks and forced the temporary
interruption of many others while workplaces were adapted to the new health requirements.
The activities that were more severely affected are those considered “non-essential” that
require mobility or face-to-face contact and tend to generate agglomerations, such as non-
essential retailing, transport and tourism, restaurants, personal services or entertainment.
During the lockdown period, the affected firms and businesses saw their revenues drop
sharply, to zero in many cases, but continued to face many costs, a situation, which led to the
rapid deterioration of their financial position. In the same manner, many workers suffered
important income reductions after losing their jobs or being furloughed or through the
impact of the crisis on their volume of business in the case of the self-employed.
The economic effects of the first wave of the pandemic have extended beyond the end of
last spring’s formal lockdown and to other sectors that were not directly affected by it.
Retailing, bars and restaurants and many personal services were allowed to reopen as the
confinement period ended, but they have had to operate since then with capacity restrictions
and other costly prevention measures and with reduced demand due to the fear of contagion.
The situation is even worse in the case of tourism, which is unlikely to return to normality
until a vaccine and/or an effective treatment for the infection are broadly available.
To the sectors that have been directly affected by health restrictions, we have to add their
direct and indirect suppliers and clients. For instance, the closing down of most retailing
AEA translated into a drastic decline in the demand for durables and non-essential consumer
29,85 goods, and the problems experienced by intermediate goods producers has generated
important disruptions in production and distribution chains in certain sectors, especially in
the most globalized ones, like the auto industry. At the macroeconomic level, the loss of
labor and business income, the increase in uncertainty and the worsening of expectations
have reduced consumption and investment levels. All this has been worsened by negative
92 feedback effects across countries within a context of generalized economic crisis and a sharp
drop in international trade, tourism and investment.
A crucial factor will be the duration of the medical crisis. As time passes, more and more
firms and households will exhaust their financial reserves and face solvency problems if the
return to normal conditions is delayed. Recent news in this regard are not good. In recent weeks,
restrictions on mobility and economic activity are being tightened again throughout Europe as a
result of a growing number of Covid outbreaks, which have turned into a full-fledged second
wave of the pandemic in late October. This setback can be a hard blow for many firms and
businesses that were already in a precarious situation after the first wave and can therefore,
endanger the recovery process that was vigorously under way during the third quarter.

2.1 How bad are things in Spain?

The economic effects of the pandemic vary greatly across countries depending on its severity,
the structure of their economies in terms of sectoral composition and the distribution of firm
sizes, and the remedial measures that have been taken. Spain is among the countries that are
suffering the most due to its heavy reliance on tourism and other badly hit activities, the
prevalence of small firms with limited financial reserves and the weakness of its initial fiscal
position, which has limited its ability to respond to the crisis. The data that have been published,
as the arrival of the pandemic show record, drops in production and employment, very unevenly
distributed across sectors and territories, followed by a strong rebound after the end of
lockdown. The recovery, however, has been decelerating from July onward and threatens to stall
or even reverse itself with the arrival of autumn and the second wave of the epidemic.
Effective employment, measured by the number of workers affiliated to social security
that are actually working (and not at home, on a furlough or drawing benefits for self-
employed workers who had to interrupt their activity )[1], fell by almost 30 percentage
points in the worst moments of the crisis, raising the effective unemployment rate to 36% in
April and May. Since then, this indicator has fallen to a still worrisome level of 20%. The
evolution of aggregate gross domestic product (GDP) has followed a similar path: the
Spanish economy seems to have bottomed out in May, with a drop of 25 points relative to
the same month of 2019, which has come down to around five points by October. For the
entire year, our calculations point to a drop of GDP of between 10%, 5% and 12% [2].
As can be seen in Figures 1 and 2, the situation varies greatly across sectors and regions.
Figure 1 shows the evolution of effective salaried employment in the largest private
activities relative to a counterfactual path that captures the expected evolution of this
variable in the absence of the pandemic [3]. Employment bottomed out in May in
construction and some business services and in June in the other sectors, but it is still quite
far from normal levels in many cases. Recovery of the hardest hit activities has stalled in
September and October and even those sectors that have suffered the least display a
worrisome tendency to stabilize before they reach their pre-Covid employment levels.
Figure 2 shows the evolution of regional GDPs using rough monthly estimates based on
the quarterly national accounts and the monthly data on effective employment by region
described above. As may be expected, the effects of the pandemic are being especially severe
in the two island regions due to the very high weight of tourism in their economies, and in
100
Economic
90
consequences
of Covid
80

70
93
60

50

40

30

20

10

0
feb mar abr may jun jul ago sept oct

Retail trade Bars, restaurants and catering

Wholesale trade Specialized construcon
Ground transportaon Food and beverage producon
Building construcon Programming and consulng
Administrave and other business services Hotels and lodging
Car sales and repairs Legal and accounng services
Metal products Financial services
Architecture and engineering Sports and entertainment Figure 1.
total
Evolution of effective
employment main
Note: As some of the required data are not available for March,the relative employment index private sector
for that month is approximated by linear interpolation between February and April. The value activities (two-digit
CNAE classification)
of the index is set to 100 in February as that was the last normal pre-Covid month in Spain

particular in the Balearic Islands, whose output remained almost 25 points below last year’s
level in September and October, after having lost almost 50 points in May. At the opposite
end of the distribution, we find the autonomous communities of Extremadura, Murcia and
Castilla la Mancha, characterized by a greater weight of the agricultural sector and much less
dependent on tourism, whose monthly GDPs never fell by more than 20 points and have
reduced their losses to less than two points in October.

2.2 The budgetary and financial situation

An important additional complication is that Spain entered the Covid crisis with little fiscal
and budgetary room for maneuver. Our country finished 2019 with a public debt of 95% of
GDP, a public deficit of 2.8% and a structural deficit of almost 4% of GDP. Hence, we are
going into a new crisis without having completed the necessary process of fiscal
consolidation after the previous one. In these conditions, the damage to public finances
AEA mar apr may jun jul aug sept oct
0%
29,85
–5%

–10%

–15%
94
–20%

–25%

–30%

–35%

–40%

Figure 2. –45%
Evolution of monthly
GDP during 2020, by –50%
region and Spain’s
An Ar As Ba Cana Cnt CyL
total percentage
difference with the C-M Cat Va Ex Ga Ma Mu
same month of 2019 Na PV Ri CyMe SPAIN

caused by Covid will put us in a complicated situation, with very high financing needs. The
poor initial situation, moreover, may limit the margin we have to fight the pandemic and
mitigate its economic and social consequences.
The update of the 2020 Stability Program that the Spanish Government sent to the
European Commission at the end of April foresaw an increase in expenditure of almost
e55.000m and a decrease in revenues of over 25.000 million during the current year. This
scenario would bring our budget deficit to over 10% of GDP and put our stock of public debt
above 115% – figures, which have subsequently been revised upward to 113% and 119%,
respectively, in the recent budget plan for next year [4]. Fundación de Economía Aplicada
(FEDEA) projections (Felgueroso et al., 2020a, 2020b) substantially increase the loss of
revenues foreseen by the government and raise the expected deficit to 12% of GDP or
133,000 million, very close to the European Commission’s projection of 12.2% in its recently
released Autumn Forecast (European Commission, 2020a). If we add to this amount the debt
that will mature during the year and needs to be refinanced, total financing needs for 2020
will be around 300,000 million, a very high figure, which would be complicated to reach
without the aid the European Central Bank is giving Spain through its massive debt
purchases.

3. The economic and social response to the crisis: what has been done and
what remains to be done’
The figures we have reviewed in the previous section add up to a very complicated situation.
The magnitude of the crisis is such that minor policy adjustments will not be enough to deal
with it. We need a global strategy that makes use of all available tools to achieve three key
objectives, namely, protect households and firms from the crisis, maintaining an adequate
level of social protection and preserving the productive capacity to the extent possible, Economic
promote economic recovery and facilitate the necessary reallocation of resources toward consequences
sectors and firms with better perspectives and set down the basis for sustained, sustainable
and inclusive growth in the medium and long term.
of Covid
The first objective has been achieved reasonably well, although with some gaps and
delays in the introduction and payment of certain emergency benefits. In the months, since
the arrival of the pandemic, the Spanish Government has taken quite a few measures to
mitigate its economic and social consequences. Most of them have sought to help households 95
and firms survive the acute initial phase of the crisis without irreversible damage, trying to
limit its social costs and the destruction of productive capacity. These measures can be
divided into three blocks, namely, those that sought to increase labor market flexibility and
maintain workers’ incomes, liquidity injections and other types of support for firms and
businesses and actions taken to protect the most vulnerable groups of the population.
The most important measure within the first block has been the flexibilization of
temporary furlough schemes (known as Expediente de Regulación Temporal de Empleo
(ERTE) for their Spanish initials), and the introduction of special benefits for affected
workers and firms, namely, extended unemployment benefits and rebates on social
contributions. These schemes have been very useful to get both workers and firms through
the early stages of the crisis by helping workers maintain their incomes and allowing firms
to reduce their labor costs while preserving the employment relation, and therefore, their
joint investment in specific human capital. Another important measure has been the
granting of over e100bn in public guarantees to help financial institutions provide firms and
self-employed workers with the liquidity needed to continue to pay their bills in spite of the
unexpected drop in revenues. With the same objective, the government has also granted
postponements on different taxes and social contributions. Finally, it has taken measures to
protect self-employed workers, other groups not covered by ERTEs and households,
especially those considered most vulnerable. In this regard, the most important measure has
been the belated introduction of a minimum income of last resort, the IMV program (for
Ingreso Mínimo Vital) but there have also been special subsidies and moratoria to deal with
housing and utility expenses and temporary prohibitions on evictions and utility cutoffs.
Although these measures have been very useful for dealing with the first blow of the
pandemic, we need to go further. As Blanchard et al. (2020) argue, once the acute first stage
of the pandemic is over and we enter a second phase of the crisis, the design of public policy
becomes more complicated as we face delicate tradeoffs between conflicting objectives and
need to begin to worry again about budget constraints and incentive effects. In health
matters, we need to find less drastic ways to combat the virus that allow for some degree of
normalization of everyday life. In economic matters, we need to go beyond a purely
defensive strategy, gradually withdrawing support measures and introducing stimuli for
reactivation.
In the remainder of this section, we outline a strategy for dealing with the current crisis
and improving Spain’s economic performance in the long term.

3.1 Short-term priorities

In addition to controlling the second wave of the pandemic, the main task we face at this
point is adapting the protection measures for workers, firms and households that were taken
in the early moments of the pandemic to promote the recovery of economic activity and
avoid the closing of viable firms without hindering the necessary reallocation of resources
toward those activities and firms with better future perspectives. An important part of the
challenge will be to adapt general measures, such as the special furloughs and the
AEA government-guaranteed loans, to the needs of the different sectors and to correctly design
29,85 the specific support measures that will be required to minimize the damage to certain key
industries, such as tourism and car production.
The main issues we have to deal with in the short run are the following:

Regarding the medical situation, it is urgent to strengthen the health care system’s
capacities to deal with and control the second wave of the pandemic, which is
96 already in full swing. In this area, it is necessary to increase the resources devoted to
the diagnosis of new cases and the tracking of their close contacts, to establish a
strategic reserve of medical supplies and equipment, to improve the coordination
between primary health centers, nursing homes and hospital emergencies, to
increase the facilities available for the housing of quarantined patients and to
prepare plans for rapidly increasing hospital capacity if necessary.

We need to design a clear strategy for the gradual scaling down of special furlough
schemes (ERTEs por fuerza mayor) that should be tailored to the circumstances of
the different sectors and to the evolution of the pandemic. Its aim should be to
facilitate the survival of viable firms and the reallocation of resources across firms
and sectors, and to provide incentives for the return to economic activity. Further
extensions of special furloughs are likely to be necessary, but they should be
increasingly more selective, with special benefits restricted to sectors that face the
longest recovery periods or strong restrictions for health reasons or to firms heavily
dependent on such sectors and to the areas and sectors most affected by new
outbreaks. The extension must be accompanied by a clear regulation that should
explicitly allow the greatest possible flexibility in relation to the entrance and recall
of workers from furlough schemes and facilitate their conversion into standard
ERTEs, as well as by a gradual reduction of special benefits, including rebates on
social contributions and the extended duration of unemployment benefits. It is also
important to require and/or incentivize the training of furloughed workers and to
allow them to temporarily continue to collect part of their benefits if they accept
another job or become self-employed. Some progress along these lines has already
been made in recent weeks.

The gradual withdrawal of special ERTEs should be complemented with additional
labor market measures to facilitate the reallocation of resources and the survival of
those firms that cannot afford to keep all of their pre-Covid workers. These
measures should include the strengthening of the regional public employment
services to increase the effectiveness of active labor market policies through the use
of digital tools that allow for a personalized treatment of employment seekers. It is
also necessary to repeal the current prohibition of fair dismissals for objective
reasons linked to Covid and the requirement to maintain employment for at least six
months after workers are recalled from furlough for firms that have benefitted from
rebates on social contributions.

While considerable attention has been paid to the liquidity needs of firms and
businesses, direct aid to them has been rather scarce in Spain (Cuadro-Saéz et al.,
2020). As the crisis drags on, many of them are beginning to experience solvency
problems that may threaten their survival, independently of their long-term
viability. To avoid the disappearance of many firms that will be perfectly viable
under normal conditions, we need to find ways to help them cover their fixed costs
during a relatively long period of inactivity. This is likely to require some
combination of non-refundable grants and capital injections– rather than financing
 for new investment projects, which seems to be the main form of intervention Economic
foreseen in the European Recovery Fund (see below). consequences

Non-refundable grants have practically not been used in Spain so far, but they of Covid
should be considered, at least for stressed but clearly viable firms in the most
affected sectors. To limit the pressure on an already stretched national budget, it
would be important to investigate whether such grants can be financed by any of
the existing EU support programs. We also need to find other ways to recapitalize 97
viable firms and businesses under stress. In this regard, it may be useful to create a
special vehicle for investment in profit participating loans and capital shares that
may incorporate private investors with experience in business management and
restructuring. For smaller firms and businesses, we should consider allowing the
repayment of government-guaranteed loans through surcharges on taxes on future
profits as suggested by Ali et al. (2020) for the case of the UK.

In the same line, it is urgent to revise the regulation of publicly guaranteed loans
and of restructuring and liquidation processes to avoid the disappearance of viable
firms and facilitate the rapid and orderly liquidation of the rest. Greater flexibility
may be required regarding repayment terms and capital repayment holiday periods,
and partial cancellations or other forms of relief should be considered, at least in
some sectors. Bankruptcy and restructuring procedures should be modified to make
them more agile and to introduce correct incentives for all parties involved,
avoiding, in particular, the risk that banks may be forced to execute public
guarantees prematurely because of the danger of losing them in the event of
restructuring. It would be useful to consolidate the debts with all public
administrations (social contributions and taxes owed, as well as public loan
guarantees) into a single mass that can be negotiated as part of a restructuring
agreement, with a single representative (that may be the bank, by delegation) and
the waiving of the usual privileges of public administrations in these procedures.

We must also reconsider the emergency measures that were taken at the beginning
of the crisis to protect vulnerable groups. Many of them sought to prevent evictions
or the cutting off of utilities during an emergency situation, which makes sense but
does not solve the underlying problems. Once the emergency has passed and a
minimum income program has been established, we should reconsider the use of
specific subsidies and ad-hoc prohibitions whose cost is often born by private third
parties. We should move toward a single mechanism for the global protection of
vulnerable households that should be publicly financed. It is questionable whether
such a program should include subsidies to the consumption of specific goods or
services, such as housing or energy, in addition to supplementing household income.

In the area of social protection, the short-run focus should shift toward the
strengthening of active labor market policies and the school system. Increasing
the effectiveness of public employment services could contribute significantly to the
fight against poverty and inequality by facilitating the labor market insertion of
the long-term unemployed, a numerous group that will grow rapidly as a result of
the crisis. As for the school system, it will need additional personnel and resources
to be able to function properly in a complicated health situation. Without a
determined effort in this area, the damages that the most vulnerable students are
already suffering could become permanent, putting at risk both their future school
and work trajectories and the principle of equality of opportunity.
AEA
Another urgent measure is the adoption of a budget consolidation plan that should
29,85 include an explicit path of fiscal adjustment from 2022 onward. The plan should
incorporate a compromise to reduce the structural component of the public deficit
by at least half a point of GDP per year, provided growth does not fall below its
potential level. Such a plan would help reduce uncertainty and anchor the
expectations of markets and economic agents in a way that will limit increases in
98 risk premia and the delay of investment, consumption and job creation decisions. It
would also be greatly needed to increase our fiscal margin of maneuver for dealing
with future crises.

The fiscal consolidation plan will have to combine tax measures with actions
designed to rationalize expenditure and reduce its growth rate to gradually return
our debt and deficit levels to sustainable values. Once the recovery is firmly under
way, it may be advisable to introduce a transitory Covid surcharge on the personal
income tax to help finance the extraordinary expenditure required to fight the
pandemic. This should be done in the context of a global reform of the tax system to
which we will return below.

3.2 Thinking about the long run

In the long run, the main objective of our economic policy must be to achieve robust,
inclusive and sustainable growth. We must give priority to those measures and reforms that
increase the growth potential of our economy and reduce its structural rate of
unemployment because they will translate not only into a higher standard of living and
lower inequality but also into an increase in tax revenues that will help finance the high
spending needed to fight the pandemic and will allow us to provide better public services
without raising statutory tax rates.
To reach these goals, we have two main instruments, namely, investment policy,
understood in a broad sense to include the accumulation of intangible assets, and in
particular human capital and structural reforms designed to improve the functioning of
certain key markets and of different elements or tools of the public sector. Regarding this
second instrument, the crisis can be an opportunity we should not waste to undertake in
depth reforms that would be much harder to implement in normal times. It should also be
noted that the support schemes the European Union has established to help member states
deal with the Covid crisis can be of considerable help on both fronts. The most important of
these schemes is the European Recovery Fund that will go under the name of Next
Generation EU (European Commission, 2020b). This initiative will provide up to e750.000m
in grants and loans to finance investment projects and structural reforms over the next six
years. Spain’s expected allotment amounts to 140.000 million.
Our recommendations in these areas can be summarized as follows.
(1) Making good use of the different European aid schemes will be extremely
important for accelerating the recovery and establishing solid bases for future
growth. The considerable resources that the EU is making available through
loans and grants must be used to finance projects and programs carefully chosen
on the basis of their social returns, giving priority to those that have an important
public goods component and would not therefore, be easily carried out by private
initiative under market conditions. While the execution of these projects can
provide a welcome demand stimulus that will help accelerate recovery, their main
goal must be to improve the productivity, competitiveness and ecological
sustainability of the Spanish economy.
(2) A lot of careful planning will be necessary to absorb these funds, together with Economic
close coordination among the different administrations and the private sector in consequences
the preparation of the required investment plans. Although the tight calendar of
the recovery plan will complicate things, to ensure the quality of the selected
of Covid
projects it will be vital to establish some sort of filter, as independent as possible,
to ensure that they meet some minimum standards. At the very least, projects
should include a discussion of why the proposed solution is better than alternate
ways to satisfy the same needs or achieve the same objectives and must pass at
99
least a rough cost-benefit analysis. Projects that involve future streams of
maintenance and operation costs in excess of their revenues should be scrutinized
with special care.
(3) Careful thought should be given to the sequencing of investment projects and to
their form of financing (through grants or loans). An effort should be made to get
rapidly under way those projects that are already mature or are technically
simple to design to stimulate the recovery, favoring those that may have large
employment effects, while allowing more time to complete the design of the more
challenging projects. Natural candidates for loan financing would be those
investments that can generate steady revenue streams (or cost savings) over time,
including many infrastructures that should be financed through new or increased
tolls or charges on their users, which can also help internalize any externalities
linked to their use.
(4) Many of the investments that are necessary to restructure and modernize our
economy are profitable projects that can be undertaken by the private sector
under market conditions. The government should facilitate such investments by
preserving economic and social stability and by establishing an adequate
regulatory framework that guarantees legal security and the agility of
administrative procedures and avoids unnecessary red tape.
(5) As for investment priorities, we concur with the EU’s emphasis on the fight
against climate change and its consequences, the promotion of digitalization and
the accumulation of intangible and human capital, instead of the traditional
preference of our country for conventional transport infrastructures. These
priorities should leave room for attention to the adoption of other new advanced
technologies and for other measures designed to promote productivity and
competitiveness in all sectors and to improve more traditional technologies.
(6) These considerations suggest that EU loans and investment grants should be
channeled preferentially toward certain areas. Aside from educational
investment, to which we will return shortly, some of the priorities should be the
following:

Certain auxiliary investments or incentives that can help accelerate the
process of decarbonization, especially in the transport sector and, perhaps, in
building renovation. This would include R&Dþi in new energy sources and
related technologies, with special attention to energy storage and demand
management, possibly part of the charging infrastructure for electrical
vehicles and improvements in the energy efficiency of dwellings and other
buildings.

The construction, maintenance and renovation of water and waste
management infrastructures, including the renovation of urban distribution
AEA networks to reduce leakage and the modernization of irrigation systems and
29,85 water treatment plants.

Regarding digitalization, measures to be financed or subsidized include
investment in improving connectivity and ITC skills, the introduction of
advanced capacities in strategic sectors of the administration and public
services (education, science, health and justice) and the reduction of the digital
100 gap across territories and social strata.

As for investment in conventional transport networks, priority should be
given to network maintenance, which has not always been adequate, and to
the design of efficient mechanisms for its financing, including the
generalization of toll charges to the entire network of high-capacity roads.
New investment should be restricted to areas where additional capacity may
have a positive net social value, such as commuting and freight rail networks.

A good case can also be made for large strategic investments to improve our
position in key aspects or components of new technologies and products,
including artificial intelligence, electric car batteries and hydrogen cells and
microprocessors. These projects should be undertaken through public-private
partnerships at the European level.

As noted in the previous section, grants or loans to finance new investment
will be of little use to sectors such as tourism that will experience prolonged
periods of inactivity or very low demand or to many other viable firms in
financial distress as a result of the crisis. To help address this problem, EU
support schemes should also allow the funding of non-returnable grants and
the recapitalization of viable firms.
(7) The other major component of investment is the accumulation of intangible
assets. In contrast with our traditional preference for concrete, investment in
human and technological capital should be given increasing weight in the future.
Education and training, in particular, must be the first priority because they are
key instruments to promote not only growth but also social cohesion and equality
of opportunity. To take full advantage of their potential, it is necessary to initiate
a sustained process of reform focused on the promotion of excellence and the
attraction of talent. Greater attention should be paid to meeting the needs of the
productive system and to facilitating the flow of people and ideas between
research centers and universities, industry and the public sector.
(8) Regarding the fight against poverty and inequality, the recently established
minimum income scheme (IMV) can be a very useful tool, especially if its cash
benefits are combined with effective training and activation programs that help
reinsert its beneficiaries into the labor market. To increase the effectiveness of
IMV, it would be necessary to revise its design so as to introduce effective
incentives to work, which are now practically non-existent as a result of the 100%
effective marginal tax rate the program imposes on the declared income of its
beneficiaries. In the same line, it would be crucial to give the autonomous
communities incentives to get actively involved in the program through their
social and employment services if we want to ensure the quality of training and
insertion programs.
(9) We need a comprehensive tax reform for reasons of both equity and efficiency
that have been reinforced by the pandemic. A key priority must be to broaden tax
 bases by eliminating ineffective and inefficient tax expenditures, including Economic
reduced VAT rates and special tax regimes, such as the so-called modules regime consequences
of the personal income tax and the simplified VAT regime that are available to
small non-corporate businesses. It is also necessary to reform the corporate
of Covid
income tax to bring it closer to neutrality, improve its integration with the
personal income tax and ensure a fair distribution of its revenues across countries
in the case of multinational enterprises. There is also a need for a thorough
revision of the taxation of capital income to ensure its neutrality across assets, 101
eliminate confiscatory rates and bring it in line with existing rules in other
advanced countries. Other necessary changes include an increase in excise tax
rates, to bring them closer to European levels, a greater use of environmental
taxes within an orderly framework that should be established by a national law,
and a greater reliance on revenues based on the benefit principle (tolls, charges,
public prices and copayment schemes).
(10) We must continue to advance toward a more flexible, fairer and more efficient
labor market. To reduce its degree of duality, it is necessary to simplify the
current menu of labor contracts and reduce as much as possible the existing
asymmetries between temporary and permanent workers in terms of severance
payments and judicial protection. It would also be important to eliminate the
existing legal uncertainty regarding the objective causes for justified dismissals
and to establish negotiated mechanisms for internal flexibility, preferably at the
enterprise level so as to be able to take into account the circumstances of each
firm. Finally, it is necessary to start thinking about how our labor market may be
adapted to an uncertain future characterized by trends such as digitalization and
automation that may be accelerated by the current crisis.
(11) We need a realistic reform of the public pension system that will guarantee its
sustainability without sacrificing intergenerational equity by placing an
unreasonable fiscal burden on younger cohorts that have fared much worse than
retirees at least since the previous crisis. The prospects in this area are not good,
however. The Parliamentary Committee on pensions (the so-called Comisi
on del
Pacto de Toledo) has recently issued a series of recommendations on pension
reform that pay lip service to the need to strike a workable balance between
pension sufficiency and sustainability but do not always point in a reasonable
direction in practice. The government, moreover, has already sketched a reform
proposal consistent with these recommendations that will put upward pressure
on pension expenditure by returning to full inflation indexation and possibly by
derogating the sustainability factor that was meant to tie initial pensions to life
expectancy at retirement. Due to the precarious financial situation of the public
pension system and the negative demographic perspectives we face in the coming
decades, these measures did not look very realistic before the Covid pandemic (de
la Fuente et al., 2020), and seem even less sensible now that the health crisis has
significantly worsened our fiscal perspectives over the medium term. Another
questionable aspect of the government’s proposal is that it involves “eliminating”
the deficit of the Social Security System by the simple expedient of moving it to
the General Government budget. This would be achieved through increasing
transfers to cover Social Security’s administrative costs and to finance certain
benefits, which, by and large, are of a contributive nature and should therefore,
continue to be financed with social contributions, as well as by turning part of
unemployment contributions into pension contributions.
AEA (12) A well-functioning public administration is very important for the smooth
29,85 operation of economic activity. Among other things, the administration must
guarantee legal security, market unity and good regulation to reduce uncertainty
and provide a favorable environment for the activities of households and firms.
The different levels of government are also responsible for the regulation and
provision of many basic services, including public security, health, education,
102 social services and transport and utility networks. All this must be done as
efficiently as possible, minimizing its cost for taxpayers and the delays and
bureaucratic obstacles they face. In this area, there is considerable room for
progress, including the extension and improvement of digitalization, the adoption
of good practices in the evaluation of public policies, increased coordination
among the different administrations and their information systems and a reform
of the regional financing system that increases the degree of fiscal responsibility
of the autonomous communities to better align the interests of their governments
with those of their citizens.

4. Conclusion: the need for a policy consensus and a broad budget agreement
We conclude with a final reflection of a political nature. As we have documented in this
paper, the Covid pandemic has brought about a profound crisis of uncertain duration
that is having serious economic and social consequences and will require painful
decisions to balance needs and available resources. In these circumstances, it is very
important that the core of the country’s medium-term economic strategy should have
the broadest possible support. We call on our political representatives, trade unions and
employer organizations to make a determined effort over the next weeks to negotiate an
agreement setting out expenditure and investment priorities and guidelines on how to
share the costs of the crisis through tax measures and the rationalization and
containment of non-essential expenditure. This agreement should then be embodied
into a multi-year budget plan supported by the broadest possible majority of
Parliament. This does not mean that we should attempt to give now a definite answer to
key political questions such as the desirable level of public revenues and expenditures,
their detailed composition or the degree of income redistribution that we want to have,
but it would be very helpful to reach a broad agreement on what we want to do in this
respect over the next few years, following a particularly large shock that will require
sacrifices from all social groups. In its absence, we can expect an increase in social
discontent and political tension that could make the country quite difficult to govern
and complicate the recovery from the crisis.

Notes
1. The data on Social Security affiliation are taken from Seguridad Social (2020a, 2020b).
Information on furloughs and benefits for the self-employed come from monthly press releases of
the Ministry for Inclusion and Social Security that are posted here: http://prensa.inclusion.gob.es/
WebPrensaInclusion/inicio.
2. For further details on the data and projections discussed in this section see Section 3 of
Felgueroso, de la Fuente and Jansen (2020b) and de la Fuente (2020a, 2020b).
3. The counterfactual path is constructed by applying to observed salaried employment in each
month of 2019 the inter-annual growth rate of the same variable observed in February 2020
that is the past month prior to the arrival of the pandemic. We work with salaried
 employment because the data on the equivalent to furloughs for self-employed workers are Economic
less precise and the series contains at least a major break at the end of June as certain special
benefits expired.
consequences
of Covid
4 Reino de España (2020a, 2020b).

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Corresponding author
Angel de la Fuente can be contacted at: Angel.delaFuente@uab.es

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