Messy Spanish rescue

Catalunya Caixa bank headquarters in central Barcelona (file image) If Spain has succeeded in gaining 100bn euros with no strings attached the Irish Republic would have a case for renegotiating its own bailout terms

This Sunday morning there are more questions than answers about the impact of the eurozone's rescue of Spain's banks on the confidence of investors and (sorry to be parochial) about the future of the UK's relationship with the European Union.

To state the obvious, lenders to financially over-stretched eurozone banks and governments are likely to be encouraged by the signal from the governments of the eurozone that they will provide 100bn euros (£81bn) of finance to recapitalise - or strengthen - weaker Spanish banks (see my note of yesterday for more on this: Spanish banks need more than 40bn euros).

But the extent of any restoration of confidence may be muted, until we know the terms attached to the emergency loans and where precisely the money is coming from.

An important issue point is whether the rescue funds will come from the European Financial Stability Facility, the temporary bailout fund that is being wound down, or its permanent replacement, the European Stability Mechanism.

This matters because loans from the EFSF rank pari passu with loans provided by private-sector investors to a buckling sovereign borrower such as Spain, but credit from the ESM would be senior to private sector loans.

I had better translate, since this probably sounds tediously technical. What it means is that if the money were to come from the ESM, existing and future commercial lenders to the Spanish government would rank behind eurozone governments in the event that Spain was unable to repay all its debts in full.

So this means that the perceived quality of private-sector loans to the Spanish government would deteriorate - which, in theory, would have the perverse effect of making it harder and more expensive for Spain to borrow from conventional sources. An ESM bailout would classify Spain as a second-class borrower in a formal sense and actually delay its rehabilitation.

But if the money were to come from the EFSF, well in those circumstances Finland has said it would fear that the money would be too much at risk of loss - so it is demanding collateral or security for its share of any such loan. Quite what this collateral would be is unclear. However, the important point is that if Finland gets it way, it would be getting preferential treatment on its share of the Spanish bailout.

It's a mess.

And here is a second complication.

If Spain has succeeded, as it claims, in persuading Germany and the other eurozone governments to hand over the 100bn euros with no strings attached that relate to Spain's spending and taxing - to its budget - then Ireland would have a powerful case for demanding a renegotiation of its bailout package.

Here is why: if it hadn't been for the reckless lending by Ireland's banks, Ireland would not need to have been rescued; in that sense, its plight is identical to Spain's; yet the rescue it received undermined the budget-making autonomy, the fiscal sovereignty, of the Irish government, in the way that the Spanish rescue will not do.

But re-opening the Irish rescue package would be a hideous can of worms for eurozone members.

Finally, the woes of Spain and its banks are hastening the arrival of a fully-fledge banking union in the eurozone, where banks in the currency union are more directly supervised by a eurozone regulator rather than by national regulators, and where eurozone governments pledge collectively to be the insurers of last resort for deposits in eurozone banks.

Writing in the Sunday Telegraph this morning, the Chancellor says he won't stand in the way of such a banking union but that the UK will not be part of it. "British taxpayers will not stand behind eurozone banks," George Osborne writes, "and British voters want their government to be in charge of supervising our own banks."

Which is all very well, but how banks are supervised and how depositors' money is protected are central to creating and maintaining a level playing field in financial services. An opt-out by Britain from this banking union would very likely undermine the single market in banking - which Mr Osborne implies he wants to preserve and extend (and read here for more on this tricky issue:Why a eurozone banking union is messy for Britain).

Or to repeat what you already know, the more that eurozone members pool their powers and sovereignty in the hope of finding a lasting solution to the currency union's crisis, the more that the UK becomes defined in their eyes - and those of other nations - as in the outer circle of EU influence.

UPDATE 16.30

It would be surprising if markets did not react positively to the news that the eurozone will lend €100bn or so to the Spanish government, so that it can strengthen its financially overstretched banks.

But since investors had been discounting such a rescue, you never can tell.

They may choose instead to focus on the considerable uncertainties and negatives associated with the bailout.

First Spain which is already struggling to reduce a substantial deficit would be adding debt equivalent to 10% of its economic output or GDP to its already sharply rising national debt.

Second by bailing out banks through semi or total nationalisations, the government is enlarging the perceived liabilities of the state, by assuming responsibility for banks' huge liabilities.

Third, if the bailout loan ranks ahead of existing private-sector loans to the Spanish government, there is a risk that Spain will end up paying more to borrow from conventional commercial sources - which is precisely the opposite of what it wanted.

So although Spain hopes it will avoid the stigma of being classed as a failed economy by allocating all the bailout funds to its banks, it may not enjoy that luxury.

Robert Peston Article written by Robert Peston Robert Peston Economics editor

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  • rate this

    Comment number 602.

    #554 571 I would hesitate to describe any economic analysis as robust whether related to cutting top rate tax or otherwise. However, the Mirrlees review, the IFS and HMRC all concluded that cutting top rate tax in 1980s did increase tax take, of course they were all working off the same data though

  • rate this

    Comment number 601.

    Infact do we even know what constitutes an economy, with all the cooking thats gone on.

    You can see the printing presses being warmed up in euroland against Germany's will, and mine.

    Growth will not come until we can restablish solid foundations, and a level playing field, with referee's to catch the cheats.

    DC's body language seems to suggest some bad news coming out ot UK soon.

  • rate this

    Comment number 600.

    Bought a flat screen in the UK to watch the football costs £ 979.00

    Bought exact same spec flat screen in euroland to watch the football cost € 1225.

    Tax man took 20% and 19.8%

    So where is the difference all economies are converged! Or pretty much.

    Argentina, Hungary all in the same boat.

    Time we moved of the US$ standard, as the gold standard was abandoned!

  • rate this

    Comment number 599.

    There is no alternative but a break up of the Euro zone because despite the huge amounts of bail out funds for these 'pigs' they are basically bankrupt. Investors know it and it is only the lethargic and vane EUROCATS who are ignoring what is merely common sense to even a dunderhead like me. How long can they keep kicking the can down the road instead of facing up to the truth ?

  • rate this

    Comment number 598.

    The problem with the City is if something looks too good to be true it is.

    The City seems to be capable of holding itself up by its own bootstraps.

    I hate analogies because you can never find an exact one.

    The City however does not generate wealth it merely shuffles money around. To its own advantage. Disadvantaging others in the process.
    This will not have escaped others in the rest of the EU.

  • rate this

    Comment number 597.

    "And they are an increasing portion of the UK's economy"

    Makes you wonder what our political masters actually think - surely can't believe 15% of UK ongoing GDP will be "created" by an endless series of valueless ponzi based "financial instruments" for much longer

    Clueless or complicit - either way still selling the 99% down the river

    All after a "market" that's Too Bust to Save

  • rate this

    Comment number 596.

    "Don't you think that the whole world is involved?"
    Sure, but I keep thinking that non-members of the eurozone could remain more relaxed. You have full control of Your finances, You can devalue Your currency ( if need be ), You can intensify Your trade relations with non-Eurozone partners ...

  • rate this

    Comment number 595.

    594 PB

    Unfortunately if you took the financial sector away from the UK the UK would look rather like Portugal economically. In Greater London the public GDP is 35%. In Wales and the N E it is 60% and in the Midlands it is 55%. The UK financial sector is the biggest in the EU which is why Smerkel & Hollande want to skim it with a EU banking levy and why Cameron and Pasty Osborne dont want to play

  • rate this

    Comment number 594.

    #592. JavaMan

    Have a good look at what is choking economies. And what economies actually are.

    My point is that the City is a sink hole.

    Creating money and sucking wealth away from the wealth creators.

    Oh so smart. But what do they actually do?
    These financial whizz kids.

    Cleverly rip us off that's what.
    And they are an increasing portion of the UK's economy.

    Easy target for Merkel no doubt..

  • rate this

    Comment number 593.


    It's a much wider issue than the EZ - western banks are largely insolvent (off balance sheet)

    Treating it as a liquidity or a currency problem doesn't stop financial "market" insolvency

    That fundamental truth stays whatever happens to the Euro - & it's epicentre is CoL/Wall St - as any sovereign default will prove

    Unless JP Morgan's interest rate swaps bust the mirage first...

  • rate this

    Comment number 592.

    I can't believe this farce has lasted so long! The failure of the Euro would be the best way to restore growth, this albatross is choking several economies simultaneously (including ours). (Leaving GO’s incompetence aside for the moment)

    6 months of severe pain, followed by growth as opposed to 30 years of anemic growth (saving the Euro). This is the stark choice facing us.

  • Comment number 591.

    All this user's posts have been removed.Why?

  • rate this

    Comment number 590.

    589. ARHReading "No one is really sorting out the fundamental issues."

    The fundamental issues have been sorted out ages ago: the powerful/ wealthy/ influential minority get the rest to support them. Why change a winning formula?

  • rate this

    Comment number 589.

    The chances of Eurozone imploding still seem remarkably high notwithstanding this latest application of sticking plaster. No one is really sorting out the fundamental issues.

  • rate this

    Comment number 588.

    Sounds like the whole Eurozone is cross-firing their cheques

  • rate this

    Comment number 587.

    "recall there is very little study evidence to support that theory"

    There is plenty of supp0orting research. See Mirrless report for starters

  • rate this

    Comment number 586.

    Robert, it doesn't matter where the money comes from really, except in window dressing terms. The Greek usecase was that ECB loans that ranked pari passu were converted into new loans at par, before the haircuts were inflicted.

    Does any seriously think Spain will be different? Any senior bond holder that hasn't already factored in subordination is deluding themselves.

  • rate this

    Comment number 585.

    547. "specific statement as to `having' superior literacy to others"

    No I asserted the country that I was educated in has superiror levels of literacy to the UK and if you look at OECD stats it is not too hard to achieve this. The way reading is tught in the UK is simply arcane.

  • rate this

    Comment number 584.

    579.Up2snuff; On latter point: I would not disagree but its important to remember s-term politicos are different from l-term Eurocrats

    I presume s=short and l=long?

    In which case I would disagree with your statement, the EZ is just about bankrupt of money, ideas and respectability. When that (shortly) collapses the EU will follow. Thus long-term is hardly correct.

  • rate this

    Comment number 583.

    Simply the banks are ripping us off.

    This wasn't part of the deal sorted out at Bretton Woods.

    We need trade not rip offs from Bankers.

    If they did but know it hoi poloi would be clamouring for a change to the Bretton Woods agreement.

    Needs to be done now before yet more youngsters are thrown on the scrapheap of idleness.

    Cameron and Gideon won't do it. They are sitting pretty. Idling by....


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