Fitch threatens Catalonia with downgrade to junk as Spanish sovereign contingent liabilities mount

Catalonia is the region that was first to announce plans to tap the Spanish government’s 18 billion euro bailout fund as the region has been locked out of debt markets. Earlier today, the Spanish government announced that it had obtained 3 billion euros through a private placement with Spanish banks to fund that bailout package. The big Spanish banks, Santander, BBVA and La Caixa will contribute most of the funding.

The reason for the problems have to do with Catalonia’s large funding needs. It has by far the largest debt load, with its 41 billion euros of debt coming in at twice the size of the next largest regional debtor Valencia. And its funding needs are also the largest, with nearly 5 billion euros of external funding needed in the 4th quarter alone due to deficit overruns. Catalonia has requested 5.023 billion in liquidity.

Fitch, the ratings agency, has therefore threatened Catalonia with a junk bond rating downgrade. Moody’s and S&P have already done so. The problem for Catalonia is the delay in getting the Regional Emergency Liquidity Fund (Fondo de Liquidez Autonómico) operational. Fitch believes the regions need to have viable alternative financing means in order to demonstrate solvency.

My view is that all of this is incredibly circular. The 18 billion euro facility is not only being supported by the big three banks but is also being supported by other Spanish banks of more dubious quality like Banco Popular and the bankrupt nationalized caja Bankia. These two banks are contributing 1.6 billion euros to the regional bailout fund. Yet, these two banks themselves will need to be recapitalized via the bank bailout funded by the Spanish government via its bad bank, the FROB. So, the bankrupt banks are supplying the government with money to fill the coffers of the regions while the government is getting money from the ECB and EU bailout funds to recapitalize the banks.

How long this game of ring around the rose lasts is anyone’s guess. But with Spanish property markets still dropping and the Spanish government’s contingent liabilities rising, it is only a matter of time before the Spanish government enters a formal Troika program. And who’s going to write that check? The ECB. They will print money because there is no one else who can pay.