people in motion

people in motion

vendredi 28 septembre 2012


"Sauve Qui Peut !"

Summarizing What Spain Just Announced, And What Was Left Unsaid (Hint: Cash)

Spain on its own cannot handle the debt crisis and markets expect Spain will need a bailout. Politicians are hesitating because this is a big country and no one wants to be associated with a bailout. Another reason is loss of sovereignty. So, the most likely scenario, in our view, is that Spain will have to request further financing of EUR 30-50bn, even if the unused bank-bailout funds can be transferred. And despite having some time on its hands, we think Spain will be forced to request help in October.

The 2013 budget does indeed focus on spending cuts (worth potnetially 0.75% of GDP next year) which is providing a headline of epic austerity, but the use of the social-security fund to buy time, the overly optimistic growth forecasts for 2013, and the lack of detail on structural reform was disappointing (or should have been to anyone who actually listened). 

It seems Spain has effectively agreed the terms for financial aid, without agreeing the terms of financial aid and while their hope is that the leftovers from the banking bailout fund will ease some pain; it seems the regional angst (Catalonia for example) and the fact that, as we noted a month ago, Spain only has enough ash to see it through to October, leave them likely to need EUR30-50bn minimum in October (as we said a month ago).

Spain: Hostage to Catalonia (among other things) -BNP-

  • Spain is edging closer to asking for financial aid, but it’s a long, slow process. We think Spain will find it very difficult to hold out longer than October, though a transfer from the social-security stabilisation fund could give it some room to manoeuvre.
  • The Eurogroup should take a broadly positive view on the new measures, assuming it is given more detail, allowing the Spanish government to spin any bailout as a reward for eform. This could remove part of the stigma associated with it, at least domestically.
  • The country’s regional elections on 21 October could be the last obstacle to an aid request. Another glitch, however, is Catalonia’s call for an early election in November and a potential referendum on regional autonomy.
  • Any unused funds from the bank bailout may be used to lower the final cost of a sovereign bailout, something that should appease Germany. But we don’t think these funds will be enough and expect Spain to request additional funding.

After today’s presentation of the 2013 budget, a new swathe of structural reforms and tomorrow’s publication of the bottom-up review of the Spanish banks, we should have a bit more clarity on the potential timeline and scope of any Spanish aid request.

The next Ecofin meeting on 8 October will assess the reforms and the budget, as well as the details of the bank reforms to be undertaken as soon the first tranches of the bank bailout funds are released. We think the assessment should be positive, assuming more details are provided, as both the reforms and budget have been drafted with the input of the IMF and the European Commission. Both IMF chief Christine Lagarde and the European Commission have confirmed that teams from their institutions have been in Madrid in recent weeks, helping to compile the 2013 budget and to lay out the structural changes that are needed in the Spanish economy.

The Spanish budget for 2013 will focus on spending cuts in a bid to pull the country out of the current crisis, the Spanish government said today. At the same time, tax revenues are likely to increase by 3.8% next year, while tax income in 2012 will be higher than budgeted. Central government spending will increase by 5.6% as a result of the increase in spending on social security and debt-servicing costs. The only areas to see higher spending next year will be pensions and third-level education.

The government estimates that the spending cuts could be worth EUR 7.5bn, or just over 0.75% of GDP in 2013, with revenue changes amounting to almost 0.6% of GDP. There will be an 8.9% cut in ministerial spending across the board, a 20% tax on lottery winnings that is expected to raise EUR 824mn) and a freeze on public-sector pay for the third year in a row, the government said. It also plans to do away with mortgage rebates, do away with certain corporate tax exemptions and transfer EUR 3bn from the social-security stabilisation fund to pay for pensions and social benefits, or “short-term liabilities”, as the vice premier termed it. The government already transferred EUR4.75bn in August from the off-budget stabilisation fund, which had around EUR 66bn in its coffers at the end of 2011.
A new budgetary authority will be created to keep Spain on the fiscal straight and narrow. The framework for the new body will be in line with recommendations by the European Commission and the IMF.

The government left unchanged its budget-deficit forecasts for this year and next at 6.3% of GDP and 4.5% of GDP, respectively. Surprisingly, it also left its growth forecast for 2013 unchanged at -0.5%, despite announcing new tax increases, which are likely to further damp already weak internal demand. We think that both deficit targets are optimistic and forecast a deficit-to-GDP ratio of 7.0% of GDP for this year and around 5% for 2013. We have a growth forecast of -1.8% for 2013.

It plans more than 40 economic reforms over the next six months and will present reforms to the pension system by year end. Those reforms will include an increase in the retirement age, a measure Spanish Prime Minister Mariano Rajoy had been resisting until recently.

On the structural-reform front, there was some disappointment. Economics Minister Luis de Guindos said the government would take on board all of the EU’s recommendations, but he was somewhat short on detail. Mr de Guindos said the government would reduce the incentives for collective wage bargaining, but didn’t specify how. Incentives to take early retirement will be reduced, he said, though the details will have to be agreed with the social partners.

So, Spain has, in effect, already agreed to the conditions for financial aid, without agreeing to the conditions for financial aid. The presentation of the reforms before a begging trip to Brussels should make the bailout an easier sell domestically. ESM and ECB support will be seen more as a reward for government efforts and less as a punishment for fiscal and structural laxity. However, the Spanish government still thinks it should wait before requesting help. Question is, how long?

The Bank of Spain says the Spanish Treasury deposited EUR 26bn with Spanish banks at the end of July. This can be considered a rough estimate of the liquidity available to the Spanish state and the best point from which to examine the current capacity of Spanish coffers.

Over the last five years, the Spanish primary deficit in the last four months of the year has been around 38% of the deficit for the year as a whole. If we assume that this year’s budget-deficit target of 4.5% of GDP (EUR 45bn) is to be met, and taking into account the tax increases to come into effect on 1 September (worth EUR 4.9bn, according to the government’s estimates) and the cuts in civil-service Christmas pay (EUR 5.2bn), this leaves a total EUR 20bn of to be financed through the end of 2012 (or close to EUR 5bn per month). However, the distribution of this financing gap is not homogeneous. 

September and October usually see an average monthly surplus of around 0.4% of GDP (close to EUR 4bn), while in August and in the last months of the year, the central government usually posts monthly deficits. However, as we have seen since the beginning of the year, the central government has been transferring funds every month to the autonomous regions, so these surpluses may be lower this year.
So, if Spain refinances its bills in the market, based on the pattern of last year’s deficit, it may only have enough cash to cover its deficit and its bond redemptions through the end of October. It is a very close call, however, and October could well be the last financially tricky month in 2012. November and December are usually months in which the budget balance averages a deficit of 0.6% of GDP. Spain could try to muddle through after October, either by increasing the size of its auctions, increasing bill issuance, or just running arrears.

If this is the case, however, Spain will be left with almost no cash and will be pretty much forced to live from day to day, in fiscal terms. At that point, Spain will be forced to request help. And Mr Rajoy must have realised this, as yesterday, he said in New York that Spain would “surely ask for support” if yields remained too high for too long. Still, the EUR 3bn transfer from the social security fund could buy it a little time, if it happens this year.

So, not only is the fiscal clock ticking for Spain, but there are other factors that could influence the timing of a request.

France and Italy are among those countries with the biggest interest in Spain asking for aid before the EU summit on 18-19 October. Germany, in contrast, would prefer for domestic political reasons to postpone any Spanish bailout, especially as Spain is only on the verge of receiving the initial tranches of its bank recapitalisation funds. But even Germany’s resistance seems to be faltering. Over the past week, both German Finance Minister Wolfgang Schaeuble and Michael Meister, chief whip of Chancellor Angela Merkel’s CDU party, said that Spain needed to decide quickly whether it needed support or not.
Mr Rajoy seems more inclined to wait until after the 21 October regional elections in Galicia and the Basque country. The latter is not an issue, as the prime minister’s Partido Popular has little chance of winning there anyway. But Galicia is Mr Rajoy’s home region and, according to the latest polls, the PP could lose control of it. An aid request before that vote would be a bitter blow to the campaign and would be seen as a personal defeat for Mr Rajoy.

Recent comments by members of his party usually more supportive of his positions suggest that Mr Rajoy may be becoming increasingly isolated in his position, though. So, Spain could end up asking for support before the elections on 21 October, but after the Ecofin meeting on 8 October.
And to top things off, developments this week in the region of Catalonia could increase the urgency of a Spanish request, as its political manoeuvrings could amplify the already significant doubts the market has about Spain. Early this week, the government of Catalonia called an early election for 25 November in a bid to underpin its defiant stance against the Spanish central government. And this after the region asked for a handout of EUR 5bn from the central coffers. Now, it seems local politicians are touting a possible referendum on self-determination as an electoral carrot. But even if the calls for Catalonian independence can be taken with a pinch of salt, the turbulence stemming from all of the regions’ unwillingness to toe the fiscal line can only make the central government’s job more difficult and the markets more sceptical.

Today’s announcement of the creation of a national fiscal council to wrestle control of regional finances is a positive step, but we can’t help but wonder what power it will have when the regions are striving for more and more autonomy. Moreover, if the government of Catalonia is successful in its strategy and gets its loan on easier terms, why shouldn’t more regions do the same? As if on cue, today, Castille la Mancha requested EUR 800mn in aid from the central government, making it the fifth Spanish region to ask for help from Madrid.

The question of the amount of any Spanish bailout, meanwhile, is also something that has yet to be addressed. The EU has already set aside EUR 100bn for a programme to recapitalise the Spanish banks and, according to the latest reports, their capital needs may be just EUR 60bn. The banks could potentially find EUR20bn of that either in the market or by selling assets to the country’s future bad bank, leaving between EUR 40bn and EUR 60bn to play with.

One possibility touted by the media is that Spain could transfer its unused bank bailout money to the government. This would keep Germany happy, as the transfer could be made courtesy of a tweak to the bank-bailout MoU, avoiding the need for German parliamentary approval. Another possibility doing the rounds is that Spain might try to avail of the ESM’s bond-guarantee scheme, which would cover investors for the first 25% of any losses on Spanish government bonds.

However, aside from any potential legal objections, for ECB intervention to occur, a country must either be under a “full” austerity programme, or have requested a precautionary one. So, even if Spain were to go down this route and the other European countries were to agree, a new MoU would have to be signed, with all of the conditions that go with it. And this might not be enough. Spain’s funding needs for the next 12 months are close to EUR 180bn. If an ESM programme were to fund only 50% of Spanish issuance, this would mean it would need a capacity of close to EUR 90bn, more than the EUR 40-60bn that might be left over from the bank bailout. And the ESM bond-guarantee option also seems unlikely, in our view, as the ECB would require a greater commitment from the government before starting to buy its bonds.

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