After three years of burying their heads in the sand (for political purposes, I assume), Spanish officials finally asked for a €100 billion bailout for their country’s banking system. I guess it’s better late than never. The Eurozone officials promptly approved it with details yet to be worked out.
The key features of the bailout are:
- The funds will be earmarked for the banking sector and go to the Fondo de Reestructuracion Ordenada Bancaria (FROB), the Spanish bank recap fund.
- Based on some back of the envelope calculations, and factoring in the banking system’s current book of assets and core pre-provision profitability, it seems like a reasonably large enough nut. While there are bigger estimates out there about what it would take to recapitalize the Spanish banks, I keep reminding myself that at the bottom of the market it always seems like you need more money for the banks than is eventually required. The U.S. Troubled Asset Relief Program is probably the best example of that.
- The funds will be channeled through the European Financial Stability Facility/European Stability Mechanism (EFSF/ESM). After some initial confusion, it’s now clear that these loans to Spain (Spain effectively guarantees FROB borrowings) will be SENIOR to the existing stock of Spanish sovereign debt. As you might imagine, the initial euphoria of Spanish sovereign bondholders has been followed by them freaking out.
- Spain contributes to the EFSF. But as it may be taking the loan itself, it may be exempt from its contribution. No point trying to spin borrowing from oneself to bail oneself out.
- There are no direct conditions attached to the bailout package.
This is really trying to play it cute. Spain has already committed to fiscal prudence and the European Union watches over it like a hawk. So there will be no Troika (International Monetary Fund, European Commission, and the European Central Bank) goons in Madrid, but effectively there are already conditions attached to the Spanish fiscal position.
I remain of the view that bank recapitalization is necessary, but not sufficient for the eventual European recovery. In that regard, despite the concerns of the Spanish sovereign bondholders, I believe this is a sizable amount of progress toward curing the last major, seriously ailing banking sectors, and a large enough amount of money to deal with the private loan books effectively. The fate of the Spanish government’s ability to refinance debt in the open market at a reasonable cost on the other hand, is a different matter altogether. I am assuming, of course, that there will be no sovereign haircut beyond Greece. That is a big and brave, but reasonable, assumption to make at this point.
So, the European crisis is still far from being solved. Eventually the economies of the Eurozone will have to start growing if we are to put the crisis behind us. However, with some movement on the austerity doctrine and now the Spanish banking bailout, if you are an optimist, you see signs of hope. I fully recognize that there are a lot of structural issues that need to be in resolved before the European crisis is behind us, but this is an important step in that direction. As I said before, it’s better late than never.