Thursday, July 26, 2012

Regional debt, national problem: Is Spain heading for a full bailout?

As Spain seems to have wiped anyone else away from eurozone crisis-related headlines, we have published a new briefing looking at how the Spanish crisis could evolve in the near future – focusing our attention on the role of the regions and potential bailout scenarios.

Forgive us a bit of self-praise, but we have repeatedly stressed the risks involved in Madrid being unable to rein in spending at the regional level (see here and here, for instance). In our new briefing, we argue that, at the end of the day, the regions alone will not make or break Spain financially (more likely, it will be the banking sector, a risk which we also highlighted at length). In fact, if they continue to rely on the central government for funding, this could increase Spain's financing needs for this year by an extra €20bn - not pocket change, but still around only 2% of the country's GDP.

However, further damages to the credibility of Mariano Rajoy's government vis-à-vis its eurozone partners would be inevitable. Furthermore, we believe regional problems combined with banking sector issues and other pressures could ultimately push Spain into a fully-fledged bailout.

But would there be enough money in the pot if this happens? 

Probably not. In fact, we estimate that taking Spain off the sovereign debt markets for three years in a Greece-style bailout would cost between €450 billion and €650 billion. This is both economically and politically impossible at the moment, given that the lending power of the eurozone's two bailout funds, the EFSF and the ESM, will only total €345 billion this year, and will rise to €500 billion in mid-2014.

Therefore, we suggest that the most likely scenario is a combination of measures, involving a precautionary loan of around €155 billion combined with a new bout of ECB liquidity. However, even that could, at best, only buy Spain six months to a year.

2 comments:

Rik said...

A break even budget is years away and the government has ruined its credibility within half a year after election.
The debt is as such 'overseeable', but nobody can see an end to it rising.
Typical Southern European government first act with structural measures (and still way too little) when the pressure is on. Makes all EZ governments more uncredible than that they already are.

The region problem simply shows that the government doesnot have grip on the situation (like before with the banks, before the bank bail out). 2 Years since collapse and regions are simply not in grip.
Likely regions will fall in numbers. Nobody is going to lend money to a region that is not in a clear surplus situation (and those are very rare). Even such ones with high roll over requirements would get it difficult. So expect most of them on the drip. Directly or indirectly via banks.

Basically the only realistic bail out option is something as you suggest. May be combined with a PSI (on the duration only) so all capacity can be used to finance the deficits as long as these exist (5 years?). The Greece rescue is simply too expensive to do for Spain certainly with Italy in the waitingroom. Imho at the end at best it will come down to that anyway but it is politically vey difficult.

ECB liquidity is simply in an expensive way of buying time (you are financing basically insolvent banks) and increases the problem via the backdoor (better bankdoor). The more Spanish banks buy sov debt, the bigger the problem gets there.
The problem being for banks getting an approval up North is considerably more difficult. So imho only ECB stuff if there is no other option and very temporary.

Bugsy said...

O.E. and Rik - All too complicated and much too long term. If this is the way the PIIGS and probably Cyprus plus maybe a couple of other countries will be keeping the EU in recession for years.

Two speed Euro is unlikely to work. So the alternative is to move those countries who cannot afford the Euro back their old currencies.

A period of upheaval and then the EU may get back to growth. The PIIGS etc will have to take many years to catch up, but then that always was the real case.