Following the lead of the US, UK and EU, Spain jeopardizes financial system and real economy by lying

In a must read Bloomberg article, the problems with pursuing the Japanese model for handling a bank solvency led financial crisis are laid bare.  At the top of the list is lying about the true condition of the banking system.

Spanish banks are masking their full exposure to soured property loans while they continue to prop up insolvent “zombie” developers, leading to credit-rating downgrades and plummeting share prices. 

Spain is trying to clean up its banks, requiring lenders to set aside more for possible losses on loans deemed performing to developers likeMetrovacesa SA (MVC), which hasn’t completed a project in more than a year and has none under way. 

While that represents about 30 billion euros ($38 billion) of increased provisions, it’s not enough because many of the loans said to be performing aren’t, said Mikel Echavarren, chairman of Irea, a Madrid-based finance company specializing in real estate. 

“Spain has engaged in a policy of delay and pray,” Echavarren said in an interview. “The problem hasn’t been quantified by anyone because there is huge pressure not to tell the truth.”

Please re-read the highlighted text as it confirms why banks must be required to provide ultra transparence and disclose their current asset, liability and off-balance sheet exposure details.

Without requiring ultra transparency, banks, their financial regulators and their host governments will lie about the condition of the banks by allowing them to engage in 'extend and pretend' practices....

There is a significant cost to the real economy from this practice.

Many Spanish banks are avoiding property sales so they don’t have to make “mark to market” valuations. Instead, they’re giving developers new loans to pay debt coming due to prevent defaults, said Ruben Manso, an economist at Mansolivar & IAX and a former Bank of Spain inspector. 

“The larger banks have been selling bits and pieces and can absorb the losses,” Manso said. “Smaller savings banks are acting in bad faith in their refusal to allow transactions and saying they can’t mark to market because there isn’t one.”...

In an environment of regulatory forbearance, banks have a number of ways of avoiding recognition of the losses on and off their balance sheets.

“The Irish property market had to collapse like the Spanish one because the economy was collapsing,” Kelly said. “Spain is looking like a re-run.” 

More than half of Spain’s 67,000 developers can be categorized as “zombies,” according R.R. de Acuna & Asociados, a real-estate consulting firm. They have combined debt of 180 billion euros that will lead to 104 billion euros of losses that hasn’t been fully provisioned for, Acuna estimates. 

“They aren’t officially bankrupt because they have been refinanced time and time again,” Fernando Rodriguez de Acuna Martinez, a partner at the company, said by telephone. “Their assets are worth much less than their liabilities, they struggle to repay loans and they haven’t revaluated them to reflect today’s prices.”

Confirming why all the strategies that failed in Ireland will also fail in Spain.

The Bank of Spain allows loans that are refinanced before turning delinquent and interest-only loans to be considered “normal” or “performing” on banks’ books, according to Manso. 

“You won’t find that data anywhere,” Manso said. “There has been a lot of cheating going on where banks have lent developers new money, classed as new lending, so they can pay off their original loans.” That’s masking delinquency, he said.

This is an example of what banks can do when there is regulatory forbearance and banks are not required to provide ultra transparency.

Refinancing the current and future zombie developers will cost 30 billion euros over the next two years, according to Acuna. The depreciation of those developer assets from 2012 onwards will generate a further 20 billion euros of losses in that time, he said. 

The Bank of Spain doesn’t publish data on the amount of restructured developer loans or interest-only paying loans that are classed as normal. The bank closely monitors refinancing to ensure that arrears aren’t being hidden, said a spokeswoman for the Bank of Spain who declined to be identified.

Please re-read the highlighted text as this is a partial estimate of the cost to the real economy from not forcing the banks to recognize their losses.

[Echavarren] forecasts that the larger Spanish banks with income from international operations will be able to pay for domestic real-estate losses within two years. The rest can’t take such a hit and will have to be nationalized, he said.

Confirming again that the government should not bailout the banks but should instead allow the banks to rebuild their book equity through retention of future earnings.

“We cannot continue to jeopardize the whole financial system by not telling the truth,” Echavarren said.