Diego Zuluaga // 05.11.2015

One of the consequences of the Eurozone crisis has been to popularise the extremely high levels of unemployment now prevalent in Greece and Spain. With around a quarter of the active labour force out of a job, including close to 50 per cent of those 25 or younger, these two countries are indeed outliers in a continent whose average unemployment rate is itself higher than elsewhere in the world.

The causes of this plight, on the other hand, are less well-known and hotly disputed. Many believe it is merely a consequence of the 2008 downturn and its aftermath. The Spanish economy was sinking for much of the period between then and now – as it begins to recover, these people argue, we will see jobless rates converge with the Eurozone average. Others posit that mass unemployment is the product of misguided policy, namely “austerity” which combined tax increases and spending cuts and depressed demand and thus hiring.

But these explanations are belied by evidence from other periods and countries. Spain’s unemployment rate has been consistently higher than the European average. As the chart below shows, even at the height of the housing boom in the mid-noughties, joblessness was at least one percentage point higher than in the EU-15. The spread widened substantially in less booming periods and has stood at or above 10 percentage points for much of the last 20 years.

Neither is the “austerity” explanation satisfactory. In the last half-decade, many countries across Europe have undertaken fiscal consolidation, mostly to cut their budget deficits and thus curb the growth – rather than the absolute amount – of their national debt. These include the UK, Baltic states such as Estonia and Latvia, as well as Ireland. All of these countries have, however, had a vastly better unemployment performance than Spain. Indeed, joblessness in the UK is now nearing record lows, while labour participation has already surpassed its pre-crisis peak.

The cause of Spain’s abysmal labour market performance must be structural. That is precisely what a new report from EPICENTER partner think tank Civismo, based in Madrid, has found. The study looks at the tax and social security burden in different European countries, and it concludes that Spain’s convoluted, regressive and opaque labour market regulations play a fundamental role in undermining employment.

First of all, the report shows that Spain and Greece’s tax burden on the average worker, at around 40 per cent, is at Scandinavian levels. But because Greek and Spanish average earnings lie substantially below those of Sweden, Denmark and Finland (see chart), the disincentives to look for work and hire are stronger in the southern European countries. For some, it is simply not worthwhile to look for work, or to employ new workers.

The problems do not end there. Spain’s income tax system is highly regressive, mainly due to the way in which its social security system is set up. Social security contributions are made at a high flat rate of 36.25 per cent, most of it paid by the employer. There are no tax-free thresholds and an upper limit only kicks in above a monthly salary of €3,606, more than double the median salary. Unlike other countries, the Spanish treasury draws the lion’s share of its tax revenue from social security payments, not income taxes which are more progressive.

Revenue-raising by the Spanish government is thus highly dependent on a high and regressive levy that is also non-transparent. For a salaried employee, the true cost of her employment is unknown because employer social security contributions are not included in gross salary figures. This can contribute to a misperception of what the employer judges the employee’s productivity to be. And because social security payments are a fixed (and comparably high) percentage of any level of earnings, for low-productivity workers – and the people who might wish to hire them – the incentive to sign a contract of employment vanishes. No wonder joblessness is particularly prevalent among the young and unexperienced, and the unskilled.

The Civismo report makes three recommendations to the government:

• To include employer contributions in gross pay, in order to increase transparency.
• To introduce a tax-free threshold for social security payments, just as there is one for income taxes.
• To cut social security payments by 8 percentage points to bring them in line with the EU-15 average.

These are hardly radical proposals, but they could make a big difference to dent Spain’s obscene structural unemployment problem.

You can find the full report (in Spanish) here.