Spain's prime minister discovers why banks should be required to provide ultra transparency

Spain's prime minister was taught two lessons in why banks must be required to provide ultra transparency and disclose on an on-going basis their current asset, liability and off-balance sheet exposure details.

Lesson I
As reported by the Telegraph,

Spain revealed that the state-backed Bankia would need another €7.5bn of equity, which would leave it almost entirely taxpayer owned and French President Francois Hollande sparked an angry exchange with Spanish Prime Minister Mariano Rajoyby saying the rest of the sector should also be recapitalised. 

“If he said that, it must be because Mr Hollande has information that we don’t have,” Prime Minister Rajoy said.

In the absence of ultra transparency, the analysis that says that losses are much worse than disclosed is impossible to counter.  With ultra transparency, this argument about losses goes away as market discipline forces banks to recognize their losses.

Lesson II
The Institute for International Finance (the IIF), an association of about 450 banks, put out a report saying that Spanish banks need a bailout of between 50 and 60 billion euros.

By not requiring ultra transparency, Mr. Rajoy has put himself in a position where the banks can increase the pressure on his government to provide a bailout.  The IIF report does this as Spain is seen as capable of raising this type of funding.

This report makes it harder for him to reject a bailout and instead require the banks to recapitalize themselves through retention of future earnings.

Taking guidelines from how badly Ireland's banks were hit in its financial crisis, economists at the global banking institute said they expect the losses to be in the range of between €216 and €260bn.

Down significantly from Moody's and other independent loss projections of 380 - 400 billion euros, but consistent with the objectives of the banks. 

The higher level of losses would suggest a bailout of 180 - 200 billion euros.  Numbers that exceed Spain's ability to raise from the capital markets.  Numbers that would require help from the IMF and EU.

"A number of factors suggest that the losses could be nearer the upper end of this range. Spain's macroeconomic prospects are worse than those faced by Ireland, especially as regards growth and unemployment," it said in a new review of the global economy.

"The bulk of the losses would be generated by the commercial real estate loan portfolio, which is concentrated in the cajas," the Spanish savings and loan banks, it said....

The IIF said the banks were able through the end of last year to find enough capital internally to put aside €110bn for loan loss reserves, and some will be able to keep generating capital internally to meet needs.  

This statement confirms what your humble blogger has been saying about the ability of banks to recapitalize themselves through retention of future earnings and why governments should never bail them out. 

If losses were closer to 400 billion euros, the IIF report suggests that it would take the Spanish banks less than four years to generate the capital internally to rebuild their book capital levels.

 But not all of them.

"Substantial divergences between individual banks suggest that government assistance will be needed for a significant number of banks, mainly the cajas," the IIF said.

Some banks may take more time than others to rebuild their capital.

In the worst case, the IIF said the shortfall that would fall on the government would be about €50 and €60bn.