Satyajit Das: It's wide of the mark to see this rescue as a victory
Tuesday 12 June 2012
On 11 April 2011, then Spanish Finance Minister Elena Salgado stated: "I do not see any risk of contagion. We are totally out of this." A little over a year later, Ms Salgado and her party are no longer in power and Spain is well and truly in it.
Spain will now apply for a bailout for its banking system. Sorry, it's not a bailout! As the Spanish Finance Minister clarified: "What is being requested is financial assistance. It has nothing to do with a rescue". It may not work in any case. The amount – €100bn or more — may not be enough. On the surface, the amount appears around three times the €37bn the International Monetary Fund says is needed.
The capital requirements of Spanish banks may turn out to much higher — as much as €200-300bn. Spain's banks have over €300bn in exposure to the real-estate sector. Around €180 billion of this exposure is considered "problematic" by Spain's central bank. Housing prices have dropped by 15-20 per cent but are forecast to fall eventually by as much as 50-60 per cent.
The bailout will be provided with no conditions, which may lead to Greece, Ireland and Portugal seeking relaxation of the terms of their assistance packages. The lack of conditions also excused the IMF from contributing. The funds will come from the European Financial Stability Fund or the European Stability Mechanism. Since 2010, the eurozone has committed €386bn to the bailout packages for Greece, Ireland and Portugal. In theory, the EFSF and ESM can raise a further €500bn, beyond the commitment to Greece, Ireland, and Portugal, allowing them to contribute the €100bn for the recapitalisation of the Spanish banking system.
The reality is more complex. Finland has also indicated that it may seek collateral for its commitment, an extension of its position on Greece which the EU ill-advisedly agreed to. As Spain could not presumably act as a guarantor of the EFSF once it asks for financing, Germany's liability will increase from 29 per cent to 33 per cent. France's share rises from 22 per cent to 25 per cent. The liability of Italy rises from 19 per cent to 22 per cent.
The EFSF's AA+ credit rating may now be reduced. Irrespective of the rating, the EFSF and ESM will have to issue debt to finance the bailout. Their ability to borrow the funds is uncertain.
The bailout does not address many issues. The funds will be lent to the Spanish government, probably its bank recapitalisation agency FROB, rather than supplied directly to the banks because of legal constraints. This will add 11% of GDP to Spain's debt level. The transaction will do nothing to reduce the country's overall debt level.
Spain's access to capital markets or its cost of debt are not addressed. The last auction of Spanish government bonds saw yield around 6.5 per cent a year with the bulk of bonds being purchased by local banks. Spain and its banks also face pressure on their own ratings. If anything, the bailout will adversely affect the banks and the country's access to funds. Commercial lenders are now subordinated to official lenders. Based on the precedent of Greece, this increases the risk.
The EU believes these measures will help the supply of credit to the real economy and assist a return to growth. This optimism is unlikely to be realised. Prime Minister Mariano Rajoy made the quixotic claim that the assistance was a victory for Spain. As Jean-Paul Sartre said: "Once you hear the details of victory, it is hard to distinguish it from a defeat".
Spain may yet not be able to avoid a full scale bailout, which could be beyond the capacity of Europe to undertake.
Satyajit Das is the author of Traders Guns & Money and Extreme Money.
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