On the Spanish banking bailout11 June, 2012, 12:56. Posted by Zarathustra
Tags: Euro Crisis
The good news over the weekend, besides those better than disastrous China macro data (which I will have more to say later after we get the lending data), is of course the Spanish bailout, which was rushed through the Saturday so that the Prime Minister Mariano Rajoy could go to watch football.
The bailout appears to be short of detail, except that the EU can lend up to €100 billion to Spain’s Fund For Orderly Bank Restructuring (FROB) for recapitalising troubled banks. Besides that, we seem to have no idea where the money is really coming from (EFSF or ESM?), and thus has no idea whether the new borrowings be more senior than the existing debts (according to Deutsche Bank, debt from EFSF will be Pari passu, while ESM loans will be senior, thus open to subordination risks).
Deutsche Bank took a relatively sanguine view on the bailout:
From a Euro-wide point of view, we welcome the fact that Europe was pre-emptive, taking the decision before the Greek elections on 17 June which could create more volatility in the market. They also decided to go for a recapitalisation size which we think is in the right range to convince the markets of its credibility. This is the first step towards an effective “containment strategy”. The next step is the European summit on 28/29 June, which should sketch out a “roadmap” for Europe – deeper fiscal integration, possibility of common debt issuance in a distant future – which is unlikely to be an immediate silver bullet but which would at least give the European leaders a sense of purpose, and more room for manoeuvre for the ECB to take bold decisions.
We also think that a discussion on another increase in the size of the ESM should start, to fully reassure the market as to the capacity to the system were market conditions to deteriorate further for the periphery.
On the other hand, Paul Donovan of UBS, a noted eurosceptic, doesn’t seem to be impressed at all:
The details are, to be honest, largely irrelevant in a macroeconomic sense. Whether the money comes from the EFSF or the ESM is not pertinent – although technically there is a difference in treatment as to the seniority of the debt between the two routes, the precedent of how seniority was treated in Greece’s default is unlikely to give much security to bond investors either way. The relevant macro points are that there will be no externally devised economic plan imposed on the Spanish government as a consequence of the bailout, and that the money will be channelled via the Spanish government (and will add circa 10% GDP debt to the government’s position if fully called upon.
Once again, the problems of operating in a politically led market environment have been made clear. Media and market practitioners alike were told that the Germans would not agree to a bailout of Spain’s banking sector without some economic conditions being imposed. Political pragmatism has won out over spin, and no conditions were imposed. This will doubtless further erode market trust in leaked political comments and “insight”. This matters because markets are just starting to grapple with the consequences of the rise of the state and a more politicised world. If this process is begun with markets trusting in politicians’ cries of “wolf” only to repeatedly find that no wolf exists, the market volatility arising from political events is likely to increase (to the detriment of economic performance).
At the same time it is clear that there are some deeper political currents that cannot be overcome, however worthy the objective. The resistance of the wider political establishment (beyond the governing elite) and the wider populations of several countries to the idea that “our” tax money should be given to “foreign” banks is clearly an obstacle to a more holistic banking sector solution. There is no direct bailout of the Spanish banks; there is a loan to the Spanish government. Aside from the absence of IMF participation, and the lack of economic conditions, this differs but little from the bailout of the Greek banking sector in terms of its structure. The idea of an integrated banking system remains beyond the reach of the Euro area at this stage. There is no “banking union”, and we remain a considerable way from that utopia.
Of course, one is very well justified to be sceptical on anything put out by European politicians. Indeed, we have been arguing that the scale of the problem in Europe has grown so large that it is beyond politicians’ ability to solve it under various constraints, including, of course, their domestic politics. While we are hoping to see more detail, we are just as sceptical as almost every body else.
As far as the market reaction is concerned, we know risks are bouncing across the board, but Société Générale fears that it could be short-lived:
Our strategists expect a sign of relief to shape markets Monday morning in Europe, but fear it could prove short-lived. This would confirm the by now all too well known pattern of denial from policymakers, pressure from markets, a patch from policymakers, relief rally by markets … declaration of the “worst is behind” from policymakers… only to see the next issue appear. A key point to watch is the response from the rating agencies. Last week, Fitch downgraded Spain by three notches to BBB. S&P rates Spain BBB+ and Moody’s A3. We are encouraged that Spain has addressed many of its weakness – and now also the banks. The market response will, however, be key in shaping the sustainability of public finances.