Spain’s Sanchez Threatens to Quit. What Are His Options?

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(Bloomberg) -- Pedro Sanchez’s decision to take several days to think about his future as Spain’s prime minister has left the euro-zone’s fourth-largest economy shrouded in political uncertainty.

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The 52-year-old Socialist leader surprised even his closest allies on Wednesday when he said he was considering his position after a judge started an investigation into his wife for influence peddling. The inquiry follows a complaint filed by a small organization known for taking leftist politicians to courts and whose leader has ties to the far right.

The political chaos comes at a time the government should be enjoying the benefits of a solid economic performance. Spain is forecast to outperform the euro-area average for a fourth straight year in 2024.

Sanchez first became prime minister in 2018 and won a third term last year after haggling with a Catalan separatist group to secure enough support to form a government. Now, that administration is at risk of collapse, which could put Spain on course for another election and a divisive battle for votes between the left, the center-right, the far right and separatist groups.

Here are Sanchez’s main options:

Sanchez Quits:

There are two paths here, one where Sanchez anoints a successor to try to hold his coalition together, or where he walks away, leaving his party in disarray with a vacuum at the top. Either way, a successor would require support from a majority of parliament to become premier.

The Socialists have no clear alternative leader with enough support for the party to rally around, and the government’s junior coalition partner, the far-left Sumar, has had abysmal showings in polls since its creation last year.

And while the Socialists hold sway — albeit barely — in the national parliament, Spain’s political set-up means it’s a far different story around the country. Most of the regions are governed by the conservative opposition People’s Party, the far-right is in a number of local coalitions, and nationalism has surged in the Basque country and Galicia. Catalonia is also scheduled to hold a crucial regional poll next month that could have broad implications for the entire country.

Snap Election:

If Sanchez choses to call an election, it would be a chance for him to rally the Socialists, other leftist parties and regional separatist groups around the idea of unity to prevent the far-right Vox entering government. It’s an argument Sanchez touched on in his announcement on Wednesday and was the cornerstone of his electoral campaign in 2023.

The PP is the largest group in Parliament while Vox is the third largest. The two have already formed alliances to jointly govern in regional and city administrations. The PP also controls the Senate — the first time the opposition has ever controlled the body.

Confidence Vote:

Trying to secure support from enough lawmakers would require Sanchez to engage in the type of political horse-trading with separatists which has chipped away at his popularity in recent months. He agreed to pass an amnesty for hundreds of Catalan secessionists in exchange for their support for him to be prime minister.

On Wednesday, Carles Puigdemont, the self-exiled former Catalan president who is the main beneficiary of the amnesty, challenged Sanchez in a post on X to hold a confidence vote.

But Sanchez may be able to rely on lawmakers’ self interest in a confidence vote. After last year’s election, where the PP won the most seats, many may favor sticking with Sanchez rather than go through another bruising political fight where there would be even less certainty of victory.

The Risks:

Sanchez’s announcement on Wednesday came as Spain nears a year of policy paralysis, which started when the prime minister called a surprise snap election in May following a big defeat in local elections. He spent the second half of 2023 trying to win over support from Catalan nationalists to allow his weak coalition to govern. The negotiations and tensions over the scope of the amnesty continued into 2024, while Sanchez also had to deal with backlash within his own party over the concessions.

If the political chaos holds up government legislation and reforms, that could have broader impact on the economy, which has enjoyed a boost since the pandemic from record tourism inflows.

The country needs to cut its deficit and pass labor reforms to access billions of euros of European Union recovery funds. Spain, the second biggest recipient of the funds, has been seeking the fourth payment since early 2023.

Markets haven’t reacted to Wednesday’s news, with the yield on the country’s 10-year bond slipping on Thursday, in line with broader decines.

This could change if there were “new general elections, which changed the parliamentary majority and involved fiscal and regulatory changes,” according to Roberto Scholtes, head of strategy at Singular Bank. “But in view of the lack of reaction today, it seems that it is a scenario that the markets give a low probability for now.”

--With assistance from Macarena Muñoz.

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