On Spain’s death spiral, regional bailouts and Germany’s ability to profit from crisis
Just a quick word here on three interlocking stories involving Spain and Germany that have come up via the US and European press. Right now, Spain is at the center of the European sovereign debt crisis. The spread between Spanish and German yields is at a record. Spanish yields on 10-year paper are at euro record highs as well.
This reflects not just distress in Spain but also a flight to safety for Germany. In effect, Spain is a ‘loser’ from the crisis while Germany is a ‘winner’. A story in Belgian daily de Standaard points this out with the headline "Duitsland profiteert van financiële crisis Europa" – Germany profits from the financial crisis in Europe. Accordingly, economist Jens Boysen-Hogrefe calculates that Germany has saved 10 billion euros in interest costs alone in this year because of the low interest rates. Some of the MMT crowd are saying this was predictable.
It has certainly caught me by surprise because last year Germany’s yields also suffered from the crisis. It was only in the past year that this intra-Euro flight to safety has developed. French and Finnish short-term yields are at negative rates for this reason. So they too have ‘profited’ from crisis in terms of lower borrowing costs at the short end. At the long-end, these countries are also getting record low yields as well.
Spain is in a death spiral. There is no escape from a sovereign bailout and the follow on monetisation or default. The Spanish press is openly talking about this and I have a couple of articles from El Pais below attesting to this. The critical problem that Spain is dealing with is not just private debt but the contingent liabilities of banks and regional governments. Apparently, six of 17 Spanish regions are poised to tap a Spanish bailout facility in return for giving the central government greater fiscal control. But of course, as with the bank bailouts, this puts the sovereign at risk of further contingent liabilities. And in the euro context, that’s clearly unsustainable.
At the beginning of the year, I predicted the ECB would make a backstop more explicit for this reason. Will they though? I am not as optimistic that the euro can or will be saved.
Note: the IMF has said that they support cutting Greece loose and allowing a re-default. That’s what the belgian article below says, based on information from Germany’s Spiegel. Also note that the Spanish situation will pull Italy in tow and so it’s a two’fer if you will. Spain’s crisis cannot be considered in isolation because of Italy and that’s originally why I though monetisation and an eventual ECB backstop was likely.