This report does not constitute a rating action.
Highlights
| Overview | |
|---|---|
| Strengths | Weaknesses |
| Stable and predictable intergovernmental system, thanks to bilateral agreements with the central government. | Full and immediate exposure to revenue during economic cycles. |
| Strong fiscal flexibility, with independent treasury management. | Lack of ordinary financial support from the central government, given special status regime. |
| Direct tax collection and no regional participation in the equalization funds, which allows special status entities to fully benefit from their wealth levels. | |
Spain's special status regions include the Autonomous Communities of the Basque Country and Navarre. S&P Global Ratings also covers in this institutional framework the historical territories that make up the Basque Country (Bizkaia, Gipuzkoa, and Araba), which are a different layer of government within the region and an integral part of the Basque Country's government structure.
Special status regions benefit from unique agreements with the central government, which are updated every five years. These agreements are discussed bilaterally with the central government and determine the calculation of the flows between the regions and the central government, as well as the competences that Navarre and the Basque Country have within its region. Recently, both special status regions have updated their respective agreements with the central government, adding new responsibilities such as the minimum living income, prison health care, and new competencies on immigration and transportation.
Special status regions and provinces benefit from high fiscal autonomy but they are more exposed than normal-status regions to the economic cycles. Special status entities have tax collection powers and an independent treasury management, and therefore do not participate in the regional financing system. This means that they are more exposed to economic shocks, but also benefit from a faster recovery.
Our ratings on special status entities can be above that of Spain, because in our view, their credit characteristics make them more resilient than the sovereign in a stress scenario. Special status regions' constitutional and legal status in our view largely isolates both regions from negative sovereign intervention. This fact, coupled with their higher degree of autonomy, are the key factors that underpin our decision to rate both regions above the rating of Spain.
Trend: Stable
We do not expect any meaningful changes to the framework governing the financial policies of the two special status regions or historical territories of the Basque Country. The Basque Country and Navarre will likely start discussions on the next update of their agreement at the end of 2025. Nevertheless, until there is a new agreement in place the previous one prevails, ensuring stability and predictability of their institutional frameworks. Special status entities are more exposed to economic cycles than normal status ones, but they are also much more proactive in playing a countercyclical role. We have observed that they typically reduce their debt levels in the stronger parts of the cycle, so they can rebuild budgetary muscle to deal with downturns.
Predictability Of The Framework
Updates to the legal framework covering the relationship between Spain's central government and the special status entities are not frequent
The law that governs the financial flows between the central government and the special status entities has provided a stable framework for more than 40 years (since 1981 for the Basque Country and 1982 for Navarre) and is constitutionally shielded, which means that the framework can only be changed if there is a reform in the constitution. The latest updates to the legal framework on the Basque Country and Navarre were made in 2002 and 1990, respectively and were approved for an indefinite period of time. Basque Historical territories' legal framework was established in 1983 by the Basque Country's Parliament. These territories are an integral part of the Basque Country's system, being responsible for collecting all taxes and then distributing them to other layers of governments (regional and local). Therefore, in our view the predictability of the reforms affecting them is the same as that of the regional government.
Special status entities collect most of the taxes and carry out almost all of the major expenditure responsibilities associated with basic public services. These entities have special fiscal regulating power (with the only limitation of not deviating from the national fiscal pressure) and full authority to collect taxes in their territory. Part of tax proceeds are transferred to the Spanish state in compensation for the services provided by the central government in the special status entities. The negotiation of this transfer ("cupo" in the case of the Basque Country and "aportación económica" in the case of Navarre) between the state and the special status regions takes place every five years and historically has been relatively controversial on minor aspects but has never meant changes in the basic financial scheme (which would require an update to the legal framework). These updates are mainly done to reflect changes in the new competences that the region might have been transferred, changes in the national fiscal framework, that would affect all Spanish regions, or any other update that would imply changes to the formula to calculate the transfer that special status regions have to do to the Spanish state. While we believe the system is overall stable and predictable, we think that the calculation and formulas of these transfers to the state are difficult to replicate based on publicly available information. Nevertheless, both regions tend to come through with very favorable agreements. These agreements have recently been updated (Basque Country in 2023 and Navarre in 2022) through a bilateral agreement between the regions and the central government. Nevertheless, when the renewal of these agreements is delayed, the previous one prevails.
Special status entities benefit from their ability to oppose to new responsibilities if they will not be financially compensated
Both regions have historically enjoyed outsized bargaining power for political reasons. The Basque Country, in particular, has been able to leverage influence because the Basque Country nationalist party has often been instrumental in maintaining government stability in Spain's parliament. Moreover, there is a broad political consensus among all regional parties within the Basque Country and Navarre, including non-nationalist parties, about the need to defend this special system.
Additionally, their framework gives both regions the possibility to push back unwanted changes (if it is the case). If this were to occur the previous agreement prevails.
The central government could only interfere directly on regional finances through the application of the 2012 Budgetary Stability Law. All Spanish regions are subject to this law, which includes annual deficit, debt, and expenditure targets for Spanish regions. If special status entities failed to comply with these budgetary targets and failed to pass sufficient additional cost-cutting measures to readdress the imbalances, then the central government could activate the provisions of the law, which would allow for enhanced supervision procedures. The decision to apply legal constraints on special status entities' finances would likely be a very sensitive political matter in Spain, however, and we therefore believe it would be unlikely to be automatic. Furthermore, the application of legal measures would indirectly affect Basque historical territories, whose finances are closely integrated with those of the Basque Country.
Revenue/Expenditure Balance
Special status regions have greater autonomy and fiscal flexibility than the rest of the Spanish regions, which allows them to adequately finance their spending needs
In our view, special status entities have the ability to maintain sound and balanced budgetary performance thanks to their constitutional status, which grants them greater autonomy than the rest of Spain's autonomous communities. This allows them to fully benefit from their higher wealth levels that boost their tax bases. They typically manage their budget countercyclically, reducing indebtedness in times of economic growth, while in periods of economic downturns the regions usually increase their borrowings to restore their liquidity positions.
Chart 1
Special status entities have ample fiscal flexibility given they have regulating powers on about 45% of their own taxes (including personal income, property, and wealth taxes). This autonomy is only limited to the downside by bilateral agreements between the regions and the central government that stipulate that each region's fiscal pressure cannot be lower than that of Spain. However, special status regions don't have any restrictions on tax increases.
Chart 2
On the expenditure side, special status regions' flexibility is similar to that of other normal status regions in our view. Special status entities' main responsibilities are health care and education, which account for about 53% of their operating expenditure, and are politically more sensitive to be cut. Nevertheless, their fiscal flexibility allows them to adjust their revenue and expenditure balance according to their spending needs.
Chart 3
Dependency on transfers from the central government is limited in both regions, which rely on their own tax bases to finance their needs. At the same time, and since Navarre and the Basque Country do not participate in equalization funds, they can benefit fully from their higher wealth levels. Nevertheless, special status entities are fully exposed to the economic cycle and their revenue immediately decreases in periods of weak economic activity, in contrast to normal status regions, which are somewhat shielded from it thanks to the regional financing system.
Historical territories' revenue adequately cover their spending needs. This results in very strong budgetary performance, with operating balances surpassing 20% of operating revenue, and generally positive balances after capital accounts. Territories are responsible for tax collection within the Basque Country, and then distributing the revenue to the different government layers. This means that if tax collection declines, their transfers to other layers government (recorded as operating expenditure) would also decline, neutralizing the impact on its operating balance. Moreover, Historical Territories' main responsibilities are more flexible to cut or to postpone in case of financial distress, as their main spending responsibility is capital expenditure related to infrastructure and transportation.
Chart 4
Special status regions, similar to normal status regions, are currently benefiting from high revenue from the Next Generation EU program. Navarre and the Basque Country have been assigned €543.6 million and €1,154.8 million in the form of grants from the European Commission's Recovery and Resilience Facility (RRF) program. We therefore expect capital investments to remain high at least until 2026, with a particular focus on green investment projects. This explains our expectation that both regions could post small deficits after capital accounts over the next years.
Chart 5
Special status entities manage their budgets countercyclically, reducing debt during economic boom years, and using their budgetary leeway and accumulating debt during crisis years, to sustain economic activity. This was the case during pandemic years where both regions expanded their debt levels in 2020-2021, and they managed to reduce their debt burden during the recovery in 2022 and 2023. In comparison with normal status regions, Navarre and the Basque Country enjoy much lower debt levels thanks to their fiscal autonomy and adequate revenue and expenditure balance, which allows them to post stronger budgetary results and use surpluses to repay debt.
Chart 6
Overall, direct debt for the historical territories stood at 79% of operating revenue in 2021 (latest public data available), up from 2019, 62% of operating revenue. Bizkaia's debt accounts for about 66% of the historical territories' debt, and its tax-supported debt is higher than that of the Basque Country, standing at 114% of consolidated revenue at year-end 2022, (versus 87% for the Basque Country). Bizkaia's tax-supported debt ratio includes debt for its infrastructure and transport entities, Interbiak and Consorcio de Transportes de Bizkaia (50% of debt is consolidated under Bizkaia), which together represent about 60% of its operating revenue.
Chart 7
Special status regions are subject to fiscal deficit targets, although these are determined bilaterally with the central government
Special status entities are subject to fiscal targets in the same way as normal status regions are; however, these are discussed and agreed through a bilateral agreement with the central government, and can therefore be different from those applied to normal status regions, and more in line with their cyclical position. Deficit targets for the Basque Country and Navarre often coincide, but this need not necessarily be the case. During 2020-2023 fiscal rules were suspended due to the effects of the pandemic in line with the same action the European Commission took at the sovereign level. However, even during the suspension of fiscal rules the central government set the so-called reference deficit rates, which were not binding and maintained the requirement of complying with the limit of the period to payment of suppliers. Both Navarre and the Basque Country outperformed this reference deficit rate over the period 2021-2023. Fiscal rules once again become binding in 2024, for which both special status regions have an authorized deficit of 0.3% of GDP. Nevertheless, we expect both regions to outperform this target in 2024, supported by cost control efficiency measures from their financial management and lower inflation costs. We don't have visibility on the medium-term strategy because these targets are discussed bilaterally with the central government annually. Nevertheless, we expect that in a context of strong economic performance, special status regions' deficit targets could be gradually reduced toward a balanced budget requirement.
Chart 8
Historical Provinces are also required to comply with fiscal targets, in line with other local entities in Spain. Their fiscal rules are stricter than for Spanish regions, as they are typically required to post balanced budgets, and surpluses posted must be used to repay debt.
Such rules were suspended during the pandemic, and many local administrations (including historical territories in the Basque Country) took advantage of the opportunity to spend past surpluses, incur in deficits and moderately raise debt, without breaking such rules.
Fiscal rules are once again compulsory starting in 2024, and the central government has already announced that local governments are expected to balance their budgets each year until 2027. We expect special status regions to be in a position to comply with such rules, given their availability of resources and high flexibility.
In our view. Special status entities (both regions and historical territories) have a strong incentive to comply with fiscal targets to avoid the possibility of the central government intervening and supervising their financials. This is also key to our view of their ability to be rated above the sovereign.
Their ability to comply with fiscal rules and their autonomy in managing their debt and liquidity resources, allows Navarre and the Basque Country to rely on market funding to cover part of their needs every year. The Basque Country is one of the largest issuers in Spain, together with Madrid, Andalusia, and Navarre. They have demonstrated their ability to reach out to capital markets even in uncertain times. As of Dec. 31, 2023, 67% of Basque Country's and 36% of Navarre's outstanding debt consisted of long-term bonds.
Lower expectations of exceptional support from the central government compared with normal status regions, as the flip side of higher fiscal independence
Contrary to normal status regions, who participate from equalization funds and receive ad-hoc transfers from the central government, special status region rely solely on their tax revenue performance.
Special status regions have access to central government liquidity support facilities in the same way as normal status regions. But so far, neither Navarre or the Basque Country have made used of such facilities, which include elements of conditionality. We understand both regions have chosen to maintain their financial independence, as a way to protect their fiscal and institutional autonomy from any possible indirect interference from the central government. In fact, we think that making use of such facilities, and therefore relying on central government financial support, would be incompatible with preserving credit quality higher than that of the sovereign.
Special status regions have received extraordinary support, such was the case during the pandemic years. However this support was lower than what normal status regions received, since they were not compensated for lower tax revenue. Their participation in the COVID-19 support was a one-off and voluntary in nature, subject to no conditionality. Also, the scope of the support only represented about 5.3% of total operating revenue on average 2020-2021.
Special status regions will not benefit from the debt absorption announced by the central government for normal status regions at the end of 2023. We believe this is because this measure is linked to the impact of the previous financial crisis on regional revenue and the lack of support of the central government back then. Navarre and the Basque Country are out of scope, as confirmed by the Ministry of Finance, as they have their own tax collection power and treasury management, that makes them more vulnerable to external shocks but also allows them for a faster recovery. Nevertheless, the outcome of this measure from the central government is yet to be defined and formally approved.
Transparency And Accountability
Special status entities benefit from clear delimitation of roles, ensuring continuity and clarity of financial and budgetary goals
There is a clear delimitation of the roles of political leadership and technical management. Technical managers remain generally stable through changes in government, which in our view fosters the continuity and clarity of financial and budgetary goals. In the case of the Basque Country, there is a fluid and direct communication between the Basque Country government and the historical territories, which is formalized through the meetings of the Basque Council of Finances. All key decisions affecting the allocation of resources across Basque Country entities are taken in this forum.
The budgets of all special entities are transparent and prepared in line with official accounting standards. The Basque Country and Bizkaia elaborate multiyear financial plans. Given that their financing is directly connected to their economic performance, these projections are generally cautious and more reliable than in the case of normal status entities which depend on central government decisions for a majority of their revenues.
Strong level of disclosure and accounting standards
Special status entities are subject to the same disclosure and accounting requirements as normal status regions. Budgets are comprehensive and very detailed, and are reported in an accrual basis. special status regions provide monthly execution reports on their budgets. And on a yearly basis they provide the so called "general accounts", which are a comprehensive and lengthy analysis of a year's account, including full details on accounting criteria and relevant budgetary developments.
Special status regions also provide budget information on their government related entities (GREs), including their budgets and individual annual accounts are published on a yearly basis. The Basque Country provides monthly information on tax collected from its three historical territories. And both regions provide information on their medium- to long-term investments plans.
The Historical Territories have also a strong level of disclosure and accounting standards, similar to the regions. They publish information on both accrual and cash basis. They also provide detailed information on their main GREs, as well as their debt levels. The Basque Country has its own statistical website with plentiful information on its historical territories, economic performance in the region, investment plans, execution of EU investments, and budgetary performance.
Additionally, the bank of Spain provides detailed quarterly bulletins with the debt position of Spanish regions, including special status regions. This includes information on their debt breakdown by instrument (bonds, loans from resident banks, foreign banks) and public sector.
The Independent Authority of Fiscal Responsibility (AIREF), issues reports with opinions, on how realistic budget assumptions are, as well as long-term scenarios of deficit and debt levels by individual regions. AIREF acts with full independence, and regions are compelled by law to cooperate with it in its tasks.
Control levels are strong and information is reliable
Information is reliable, in our view, and special status entities publish their financial reports on regular, predictable dates. There are few restatements of previously published data, and these are generally immaterial. Medium-term financial plans are based on conservative assumptions (for example, overstating interest expenditure), and tend to be overperformed in budgetary execution.
Special status regions are subject to the supervision of the state's audit body (Intervención General de la Administración del Estado, IGAE). This body coordinates accounting practices across regions, establishing accounting standards, and publishes the definitive deficit figures for the year. It ensures that the Spanish public sector complies with the methodology of the European accounting standard system. Additionally, budgetary accounts are audited by regional audit bodies. These reviews are published with some delay, typically two years after the closing of the reviewed fiscal year. However, they are extremely detailed and include recommendation for improvements in fiscal reporting or accounting practices.
Related Criteria
- Criteria | Governments | International Public Finance: Methodology For Rating Local And Regional Governments Outside Of The U.S., July 15, 2019
Related Research
- Institutional Framework Assessments For Local And Regional Governments Outside Of The U.S., April 8, 2024
- Autonomous Community of the Basque Country, March 25, 2024
- Autonomous Community of Navarre, March 25, 2024
- Historical Territory of Bizkaia, Sept. 25, 2023
| Primary Credit Analyst: | Marta Saenz, Madrid + 34 91 788 7231; marta.saenz@spglobal.com |
| Secondary Contacts: | Alejandro Rodriguez Anglada, Madrid + 34 91 788 7233; alejandro.rodriguez.anglada@spglobal.com |
| Manuel Becerra, Madrid +34 914233220; manuel.becerra@spglobal.com | |
| Additional Contact: | Sovereign and IPF EMEA; SOVIPF@spglobal.com |
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