Redenomination risk in Spain causes bank deposit run as house price slide accelerates
Quick post here to highlight then continued losses in Spanish property markets and the effect on Spanish banks. House prices in Spain were down 11.2% year-on-year in July. That’s the largest fall since March 2011 and it brings all in losses since the financial crisis to 31%. That tells you that Spain’s house price declines are in an acceleration phase, meaning that much greater losses are about to crystallise on Spanish bank balance sheets.
This is a real interlocking problem. First, the Spanish government has been locked out of international debt markets as the situation in Spain has deteriorated. It is dependent on Spanish banks to buy debt at auction. And these are the very same Spanish banks that are going to be recapitalised via Spain’s FROB federal government bad bank fund to the tune of 100 billion euros. I should note that 100 billion euros will be far too timid a sum since the losses from declining house prices are a moving target. The final bill will be many multiples of that given likely 50% or greater house price declines.
At the same time, Spain’s regional governments are being hammered by the loss of tax revenue from property and property transaction taxes as well as the increased expenditures associated with the economic depression. These regional government’s are now shut out of bond markets completely. Spain’s federal government has set up a bailout fund for regional governments as Spanish regional governments are unable to refinance 15.8 billion euros of maturing debt as debt deflation takes hold.
Meanwhile, as of July Spanish banks have 375.5 billion euros of loans from the ECB (link in German). That is a record, up from the record 337.2 billion in June. In April 2011, credit with the ECB was at a record low of 42.2 billion. This dramatic turnaround from record low ECB credit to record high and increasing credit at the ECB is a clear indication of a deposit run out of Spanish banks and into banks in the core, mostly Germany. At the beginning of June, I showed a chart demonstrating that net Target2 balances in Eurosystem also show capital flight.
This capital flight is the result of so-called redenomination risk as depositors fear Spain’s leaving the euro zone and devaluing its currency.
My view is that Spain is in a death spiral and it is dragging Italy in tow. What happens now in Spain will also happen in Italy. It would be foolhardy to try and ring fence Spain without addressing the problems in Italy, a much bigger economy. I have been saying for some time that there is no escape from a sovereign bailout for Spain and the follow on monetisation or default. The question is how. What exactly will be the mechanism to effect a Spanish sovereign bailout? Spain is too big for a normal bailout as is Italy.
And so we are likely seeing the end of European bailouts and the beginning of monetisation.