Messy Spanish rescue
- 10 June 2012
- From the section Business
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.
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.