On the coming EuroTARP bank bailout in Spain

As I first described here in late April, the Spanish bailout is looking like a bailout of Spanish banks instead of the sovereign. Spain’s debt to GDP is still relatively low and so the thinking is that the sovereign debt problems there are mostly related to contingent bank liabilities. In order to sever the link between the sovereign and the banks, recapitalising the banks is key.

Yet, the recapitalisation plan has problems. The Germans did come around to the view that a bank recap via the ESM was possible. But they have agreed only to allow a pass-through via the Spanish state bank bad bank fund FROB. And that means that any funds that Spain gets for recapping their banks will add to their debt burden. In my view, this means the contingent liabilities are still there and that the problem will persist.

The IMF is expected to say that Spanish banks only need 40 billion euros of capital. However, the sums are likely to be a multiple of that. Nouriel Roubini says Spanish banks would require 100-250 billion euros in recapitalisation funds to maintain a 9 per cent core tier one capital ratio consistent with planned Basel II capital requirements. Brussels-based research group Centre for European Policy Studies says the Spanish government target of 166 billion euros in loan loss provisions only covers property developers and cannot begin to deal with the household mortgage debt problem. Dealing with household mortgages would bring provisions up to 270 billion euros.

At a minimum, as we indicated was likely last month, Spain will likely be given another year to reach the 3% GDP deficit hurdle. In my view, all this deal does then is buy Spain some time but the recapitalisation is completely inadequate as it fails to meet the capital needs and it fails to decouple Spanish banks from the sovereign given the pass-through structure being used. Yet again, we are witnessing extend and pretend in Europe. In all likelihood, we will see more problems with Spain down the line.