Things starting to hot up in Madrid

Saturday, June 09, 2012

Spain’s experienced budget minister Christobal Montoro was the country’s first politician to admit that help was needed to bail out the banks and all eyes have now turned to what form that rescue will take, writes Kyran Fitzgerald

It is crunch time for Spain and — many now believe — for the whole euro project.

On Tuesday, the country’s experienced budget minister, Christobal Montoro, became the first Spanish minister to acknowledge the country could not afford to rescue its troubled banks on its own and faced being shut out of the sovereign debt market.

This weekend, Spain is set to seek outside help, or so it has been widely reported. Official denials followed, but a Spanish bailout of some kind is all but inevitable before long.

The crisis was triggered by the collapse of the country’s fourth largest bank, Bankia, the product of a recent merger of five savings banks.

Last July, Bankia was floated on the stock exchange, attracting hundreds of thousands of small investors — like flies into a spider’s web. It has since been nationalised.

Montoro was not caught out in a moment of frankness. He is a highly experienced politician, having served in the same job under Spain’s last centre-right prime minister, José María Aznar, between Apr 2000 and Apr 2004. A former MEP and long-time member of Spain’s congress, Montoro was given the task of sorting out the financial mess in the country’s regions and local government, where costs were allowed to mushroom during the last decade.

Montoro is considered to be a strong administrator, “austere, implacable, more of an operator than an ideologue”, in the words of Madrid academic Fernando Fernandez.

Montoro’s admission appears to be part of a concerted attempt to prepare the ground for a bailout.

His boss, prime minister Marian Rajoy, followed up with a similar admission, while stepping up the pressure on Europe’s paymistress Angela Merkel to allow for a direct transfer of funds from the euro bailout funds, the EFSF and the newly created ESM, into the Spanish banking system.

The Irish Government was displaying keen interest in the idea of such a transfer as it asserted that would put Ireland in a position to claim retrospective payments from these funds in respect of large sums which the Irish sovereign has pumped into bust banks.

However, Merkel has been quick to make clear that bailout monies would be made available to the Spanish government — and not directly to the banks.

Indeed, the view in Brussels would appear to be that such a direct transfer of funds into the banks would be unlawful.

Once more, it seems, Irish hopes have been raised only to be dashed.

Merkel has made it clear, however, that Spain will not be subjected to the humiliation of a formal EU/IMF intervention of the type visited on Greece, Ireland, and Portugal. The money from Europe will be paid into a state-run restructuring fund rather than directly to the government, necessitating outside controls.

But the effect will otherwise be similar, with the amount of the bailout sum being added to the Spanish national debt, perhaps bringing it to around the 90% mark depending on the sums involved.

The donors will want to be sure that the sum issufficient to fill the gaps that have emerged as the recession moves into its fifth year.

Spain is Europe’s fourth largest economy, a major cog in the eurozone wheel. Its right-of-centre government is credited in Berlin with having sought to rein in government spending. Critics argue such action has proved to be counter-productive given the unemployment rate has risen to almost one-quarter of the workforce while consumer spending has fallen off a cliff.

This, in turn, has hit budget targets, with the economy ministry reporting a €25bn rise in the budget deficit in the first quarter of 2012. Retail sales in April alone were down almost 10% on the same month in 2011.

As the week has progressed, the pressure on Madrid has grown ever more intense.

On Thursday, the Paris-based ratings agency Fitch (no friend of Ireland), downgraded Spain by three notches to a rating just above junk bond status, the same as Mexico, a major sovereign defaulter in the 1980s and 1990s.

The estimates for the likely cost of a Spanish bank bailout have continued to grow as the weeks passed. Fitch has raised its estimate to around €60bn. The IMF believes the cost could be €40bn or more.

Ten-year bond yields have risen to 6.25%. The government got away a bond issue on Thursday, but at a rate above 6%.

A run on the banks appears to be under way. Foreigners, in particular, are pulling their money out of Spain’s financial institutions. Net withdrawals in March reached €66bn, almost double the level of December when the previous record was set.

Politically, too, the ruling Party Popular (PP) government is feeling the heat.

The former chairman of Bankia, Rodrigo Rato, is to be investigated by the state prosecutor. Rato was economy minister in the last PP government.

He went on to head up the IMF in what amounts to a spreading in the circle of embarrassment.

Both the PP and the opposition socialists, PSOE, are deeply implicated in the scandal of regional banking across Spain. The so-called Cajas were used by local politicians as electoral lubricants, with funds being lashed into often dubious local projects. Regional governments have also run up huge debts on top of the central government deficits.

The parallels with Ireland are considerable: Similar construction-led booms, over-borrowing by companies and individuals, and a huge financial hangover.

Spain’s labour market is in a far worse state, but the bank collapse is unlikely to reach Irish proportions, not least because the two largest banks expanded overseas, while the smaller banks on the whole were more strictly regulated.

However, some analysts believe we are still at an early stage when it comes to discovering the true state of the financial hole in Spain.

Megan Green, economist with Roubini Economics, has warned the Iberian black hole could run to hundreds of billions.

There are concerns about the ability of the EFSF and ESM to absorb such a hit, not least because Spain itself will no longer be stumping up to the fund (as a result, Germany’s share of the burden, alone, jumps from 29% to 33%). The task of carrying the stricken falls on the shoulders of a shrinking number of surplus eurozone countries, in other words.

Several German and Austrian banks have been downgraded amid fears lenders could lose out heavily should the eurozone endgame be reached amid a wave of defaults.

The message from Washington, Beijing, and London is clear: At the upcoming summit, leaders must get their act together and Germans, in particular, along with the ECB, must make real attempts to control the spread of the malaise before it is too late.

The Spanish have been ardent supporters of the European project, displaying real affection, as opposed to Irish-style financial pragmatism.

It would be ironic indeed if the death knell of the euro and of the EU were to be sounded in a country which has long viewed the EU as a ticket to a better future.

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