How Spain can avoid a Brussels Bailout and why they shouldn't bailout their banks like Ireland did
Spain can breath a little bit easier as punters have been scaling back their bets of a Brussels Bailout. Don't get me wrong, they still could default, but all depends on their ability to make the politically difficult decision on their plate.
Indeed, capital markets seem to have lost much of their panic at Spanish debt that they had in November and December, when European markets had their My Pet Goat moment. Credit Default Swaps have come off their high of over 350 and are now hovering at about 230.
In fact, for all the talk of the Irish Celtic tiger and how investor friendly, the reason why they failed was their assumption of the bank losses onto the national balance sheet. They were too friendly with the banks. If that hadn't happened, they would have a banking system wholly insolvent, but they would likely be able to fund their their sovereign debt. Now what they have is a banking system which is insolvent, and a country that is insolvent. Good job Ireland!!
Spain's cajas are struggling with solvency. If Spain resists the temptation to bailout their cajas, they will live to fight another day. Part of the reason that capital markets have beatup Spanish debt so bad is that they have built in the assumption that Spain will be unable to resist and consequently, won't be able to pay their debts. Via FT:
The challenge to Spain’s budget deficit and debt comes not from direct indebtedness but, instead, from “contingent liabilities” – that is to say, the liabilities of other sectors that the government may decide to assume in order to curtail further economic and financial disruptions.
Spain is where Ireland was a couple of years ago. In the next few weeks, it has to choose whether to use the government’s balance sheet to recapitalise the cajas’ struggling balance sheets and whether to assumes their losses. Moreover, the cajas are not the only sector facing debt overhangs in Spain and, consequently, posing contingent liabilities for public finances. Property is also a concern, as are some segments of the private sector.
The Irish government decided to use its balance sheet to absorb the bulk of the losses of its private banks. Taxpayers were put on the line for past bank excesses, while most creditors and all depositors were let off the hook.
Ireland’s decision was driven by the judgment that a broader burden-sharing, including imposing haircuts on more creditors, would be highly disruptive. In reality, no one can ever know the counterfactual.
What is clear is that, at an estimated 30 per cent of GDP, the burden from the bank rescue efforts has proved excessive for Ireland’s public finances. The banks’ problems have now totally overwhelmed budgetary resources, turning a banking crisis into a full-blown sovereign debt crisis. As a result, the country now depends on bail-out funds from the International Monetary Fund and its European partners.
Spain is clearly keen to avoid Ireland’s experience. The central bank is forcing reform on the cajas, and pushing them hard to recapitalise. And some cajas, like Catalonia’s Caixa, are actually making concrete and meaningful efforts to raise private capital.
These are important steps. But they are just a start: the cajas have dug themselves into a deep hole. Estimates for the sector’s capital needs vary enormously. Reflecting the still-large degree of valuation uncertainties, some are as low as €20bn ($27.6bn) while others are as high as €100bn. Moreover, the cajas still account for an important part of deposits whose stabilisation is key to Spain’s well-being.