Thursday, July 19, 2012

Confirming that bank bailouts are a needless waste of money, Spain's borrowing costs surge

In his Telegraph column, Ambrose Evans-Pritchard discusses how Spain's debt costs are surging despite the EU's bailout of its banks.

Regular readers know that this is not a surprise as money spent on bailing out banks only benefits bankers as they get paid their bonuses.

A modern banking system with deposit insurance and access to central bank funding is designed not to need a bailout.  Banks can operate with negative book capital levels and continue to support the real economy.  In fact, a modern banking system is designed to protect the real economy by absorbing all of the losses on the excesses in the financial system.  

It is only when governments step in and prevent banks from performing this function that the real economy is damaged.  The damage to the real economy is the direct result of the drag on the real economy from supporting excess debt that siphons off capital that should be reinvested in growth.

Yields on five-year bonds jumped to a fresh crisis peak of 6.46pc at a closely-watched auction as hopes fade for fresh stimulus from the European Central Bank and direct recapitalisation of Spanish banks by the EU bailout find, the European Stability Mechanism (ESM). 
“Demand for Spanish paper is collapsing, even for shorter-dated debt which is very worrying and raises the spectre of Spain losing market access,” said Nicholas Spiro from Spiro Sovereign Strategy. 
Marchel Alexandrovich from Jefferies Fixed Income said the markets are already bracing for second bigger rescue of around €400bn. “A few more weeks like this and Madrid is going to decide to it has nothing more to lose and call for a full sovereign bail-out,” he said. “Then we will find out if there really is any money in the EU kitty. 
“If the ECB goes on holiday without doing anything more, this is going to snowball. We’re way past point where any country can deliver fiscal measures on its own. People are not going to buy Spanish and Italian debt right now whatever ever they do. There has to be a circuit breaker.” 
The failure to win back investors is a bitter blow for Spanish premier Mariano Rajoy as the country pushes through the harshest retrenchment in modern history, with cuts in public salaries of up to 7pc, lower dole payments, and a three-point rise in VAT to 21pc.
There is no surprise in what is happening.  Who would buy debt of a country where its policymakers are deliberately undermining its real economy? 

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