Blog: Dave LeggettEconomic development, wages and eastern drift

Dave Leggett | 20 March 2007

Do you remember what Spain was like in the 1970s and early 1980s? For holidaying Brits it was an eye opener. It was a bit like Turkey now. There was a big and well developed leisure industry of course, but just under the surface plenty of relative poverty lurked.

Then Spain joined the European Community and economic progress took off. There was a stampede of investment by vehicle manufacturers keen to exploit Spain (and Portugal) as a low-cost production base that was now tariff-free for intra-EC circulation.

Economic progress accelerated still further, helped by EC transfers in things like road infrastructure and the Common Agricultural Programme. Wages rose in real terms and people in Spain were much better off.

And that is what people and governments in central Europe want for themselves. Joining the EU is seen as a passport to the sort of economic progress Spain has achieved in a fairly short time.

But there is a slight snag, though in reality it's not really a snag. It's just that, apparently, you can't quite have your cake and eat it. The wage differential that was a big competitive strength in Spain on joining the EC was gradually eroded. The investment influx stimulated demand for labour and wages rose. The rate of unemployment in Spain has plummeted from 20% as recently as 1997 to just 8% now. 

The authorities and trade unions in Spain are now preoccupied with trying to hold on to manufacturing activity that is threatening to shift to cheaper places. Yes, like Poland, Hungary, Slovakia and the Czech Republic. And as those places get more expensive, a new and lower cost frontier opens up further east still - Bulgaria, Romania, Ukraine.

But we shouldn't lose sight of the fact also that with increased spending power in these growing economies the market for goods and services within the EU grows too. It's the flip side of the higher wages - spending power rises. Spain's current 'problem' is a part of its success. The Spanish car market - comfortably at 1.5m vehicles per annum - is double what it was ten years ago.

There's an economic rebalance going on. Spain has moved into Europe's economic 'Premiership' now. That's fine as long as it has the resources and industrial profile to compete in the higher league. Lower value added and more labour intensive stuff then migrates to where that sort of activity can best take place; Spain shouldn't be competing so much for that work any longer.  

Now Spain is a market destination in its own right. There will be firms who need to stay close to the point of final consumption and suppliers who want to stay close to the OEM customer. Manufacturing costs are relative and a little more complex than just looking at headline wage rates. (They still make cars in relatively high-cost Germany!) Western Europe is still a huge market and production base even if incremental growth is mainly happening further east.

However, as the economic momentum, centre of gravity, moves eastwards, it can only be a matter of time before someone in Russia says, 'Hang on, why aren't we part of that?' And that would be a good debate to start having.

(I just looked up some GDP per head data and it's interesting to see the relativities as of 2005. Countries like UK, Germany = approx US$35,000 income per head -PPP adjusted; Spain is at US$26,000 while Poland and Turkey are both at US$8,000. The Czech Republic is coming up very fast at US$20,000.)

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