Monday, January 24, 2011

Spain bets credibility on a not believable bank bailout bid

More details have emerged about Spain's plans to bailout their savings banks (cajas).  As reported in the Telegraph,
Finance minister Elena Salgado said capital injections into the cajas would “in no way exceed €20bn [£17bn]”, with a large part coming from the private sector. Spanish banks will have to boost their core Tier 1 capital ratio to 8pc, even stricter than the Basel III rules.
As discussed in previous posts, in the absence of current loan-level data, why would investors believe that this is enough capital to make the cajas solvent?

Investors have seen Ireland up the ante three times on the bad loans in their banking system and still need a bailout.  Why should they believe that Spain is any different?  The article clearly indicates that they do not.
“This is unlikely to be a game-changer, and could potentially unwind the relief rally we have seen in the markets,” said Silvio Peruzzo, RBS’s Europe economist.
“We view €50bn as the minimum recapitalisation for the Spanish banking system that would restore investors’ confidence,” said the bank.
The RBS economist thinks that 2.5X more capital is needed than does the Spanish government.  Clearly, there are parallels between the Irish and Spanish real estate bubbles.  In Ireland, house prices have dropped to 2002 levels.  Could this be factored into his estimate of capital needs? 
RBS said Spain remains caught in a vice of tightening fiscal policy and a deepening property slump that may culminate in a 40pc fall in house prices, eroding the solvency of the cajas. The Madrid consultants RR de Acuna estimate the overhang of unsold homes at 1.2m.
Mr Peruzzo called on EU leaders to take much bolder action to overcome the crisis, demonstrating that they really mean to “save Spain” by beefing up the rescue machinery. EU ministers played for time at a key meeting last week, giving an impression of complacency.
... RBS said there is a risk that new proposals in the pipeline will not be “forceful enough” to mark a turning point in the eurozone drama. It said Spain “will remain exposed to contagion”, unless the EU takes pre-emptive action.
Goldman Sachs takes a rosier view, deeming Spain to be fundamentally “solvent”. It estimates further caja losses at €15bn. Even if Spain slips into a double-dip recession this year under a “pessimistic scenario”, public debt will peak below 90pc of GDP. Exports are recovering, with car shipments at record highs.
Analysts are split over the true state of the cajas. Arturo de Frias at Evolution Securities said parts of Spain’s banking system look “Irish”. The “problem ratio” on €439bn of property debt may reach 60pc. “We calculate a worst case of €142bn future impairments – €59bn for banks, and €83bn for the Cajas,” he said.
Brussels clearly fears that Spain is still at risk. Olli Rehn, the EU’s economics commissioner, called for urgent action to beef up the rescue fund (EFSF) before the next spasm of debt jitters. “We need to agree as quickly as possible. The recent lull in market tensions gives us breathing room, but we can’t sit back: we must act now with full determination,” he told Die Welt.
The bottom line is that the Spanish government is committing itself to only slightly more in recapitalization funds than the most optimistic projection of need.

By denying that the need for capital could be substantially higher, the Spanish government is betting its credibility with the capital markets.  If reality is closer to the RBS projection, Spain will be scrambling to fill the hole in its banking system at a time that it has zero credibility with the capital markets.

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