Spanish regional governments unable to refinance 15.8 billion euros of maturing debt as debt deflation takes hold

Today, Spanish newspapers confirmed that a number of regional governments on the verge of bankruptcy must follow Spanish banks in requesting aid from the central government. However, with Spanish central government itself facing record euro era highs in 10-year bond yields and spreads to German yields, it is clear that the sovereign cannot support the regions. The Spanish crisis is therefore near a breaking point, with the government pleading the ECB to intervene.

All of these events have come over the weekend from various sources inside of Spain. Let me run down the threads and put them together for a more comprehensive view.

First, at the end of last week, it became clear that Spanish regional governments, shut out of bond markets, would need to tap the promised regional aid facility that the Rajoy government was instituting. As with Spain’s own aid from the Troika, this aid comes with strings attached, limiting the regional governments’ autonomy on fiscal matters and requiring large cuts in spending to meet deficit targets.

Valencia was the first to be confirmed as wanting aid. The region has a debt of 20.5% of regional GDP and has had very serious market liquidity problems for over a year. It’s debts are the second highest amongst regional governments at 20.8 billion, behind only Catalonia with 41.8 billion in debt and well over 20% debt to regional GDP as well. According to El Pais, sources from within the governing Popular Party in Valencia have indicated that the central government would take control in exchange for aid, with the goal of getting the deficit down to 1.5% of GDP. These sources also indicated that Valencia would ask for 1.6 billion euros of the 18 billion slated for regional aid. Cinco Dias reports that this aid would become available as soon as August or September.

El Pais has now indicated that five other regional governments of Spain’s 17 – in Catalonia, Castile-La Mancha, Murcia, and the canary Islands – were prepared to make similar requests. Murcia announced it would seek 200-300 million euros in aid. Catalonia is reported to be in talks with banks to secure 500 million euros of bridge financing.

The issue is debt coming due. The following table outlines the maturing debts for the regions by year end:

  • Catalonia: 5.755 billion
  • Valencia: 2.883 billon
  • Andalusia: 1.610 billon
  • Madrid: 1.344 billon
  • La Rioja: 940 million
  • Castile-La Mancha: 705 million

And the banks have turned of the taps to the regions due to their fiscal situation. Most regional governments have taken severe budget-cutting austerity measures already. But revenue is in freefall. regional noninterest income fell 6.15% during the first quarter. Revenues from transfer taxes and stamp duty, some of the most important to regional governments, fell nearly 23% between January and April of this year. That gives you a sense of the problem.

The Spanish government recognizes the situation is unsustainable and has called on the ECB to start monetising sovereign debt.

The Wall Street Journal reports.

The Spanish government, confronted by growing antiausterity protests, now sees the European Central Bank as the only institution with the ability to change the course of the country’s financial crisis.

"Somebody has to bet on the euro and now, given the architecture of Europe isn’t changed—who can make this bet but the ECB," Spain’s Foreign Minister José Manuel García Margallo said Saturday.

The ECB so far has bought around €214 billion ($260 billion) of government debt with its Securities Market Program, but hasn’t actively used this tool for months. In the interim, Spain has had to pay dearly to continue attracting investors to its bond auctions.


The country’s long-suffering government bonds were pummeled, driving yields to 7.22%.

The pain was shared with Italy—the next-most-worrisome country for investors. Italian bond yields also shot up, and the stock market slumped 4.4%. The euro depreciated against the dollar and was trading at $1.2158 late Friday in New York. Equities were lower across most of the Continent, and investors flocked to the safe embrace of German government debt: The yield on the 10-year Bund slid to 1.17%, near record lows.

Madrid sharply lowered its economic forecasts for the next several years. Budget Minister Cristobal Montoro said Spain’s gross domestic product now is likely to contract around 0.5% in 2013, compared with a forecast of 0.2% growth given earlier this year.

The government also cut its forecast growth rate for 2014 to 1.2% from a previous 1.4%. However, it upgraded this year’s forecast to a contraction of 1.5% compared with a previous estimate of a 1.7% contraction, though Mr. Montoro gave few details explaining why.

Spain is striving to shrink its budget deficit to 2.8% of gross domestic product in 2014 from 8.9% last year. In that vein, Mr. Montoro said new 12% cuts in funding for central-government ministries will help Spain’s government lower the spending ceiling—excluding interest payments and funding for social security—for next year by 6.6% from this year, to €73.3 billion.

"These steps are not negative, they simply seek to lower the deficit, because there is no alternative to lowering the deficit," Mr. Montoro said.

But many analysts worry that Spain’s steady stream of austerity cuts is doing further harm to an already weakened economy. The cuts are making it impossible for government spending to offset private-sector demand that is lost as households and corporations face tax increases and try to reduce their indebtedness after a decade of aggressive borrowing.

Spending cuts are also proving deeply unpopular. Mass demonstrations took place in 80 cities across the country late Thursday, with the flagship protest in Madrid featuring a limited number of clashes with armored police as the night wore on.

On Saturday, the unemployed from around Spain joined public-sector workers such as teachers and doctors in central Madrid for demonstrations, banging drums, blowing whistles and waving signs with slogans such as "Your System, Our Crisis." The protests remained peaceful although police had blocked off major streets hours before the march began.

The austerity is also hitting Spain’s regional governments, which control more than a third of all government spending, including health care and education, but have few taxation powers

Clearly, this is a debt deflation where the regions and the central governments are cutting so much that it curtails spending and then brings down asset prices and therefore crimps revenues more than expected. Spain is due for more, both at the central government level and at the regional level since that is what these aid packages require. So, we should expect the situation to get even worse.

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