Mon, Jan 03, 2011 page10

• ANALYSIS: Spain to take center stage in efforts to consolidate European monetary union

  • AFP, MADRID
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  For financial markets the doomsday scenario this year starts with Spain buckling under its debt and unleashing a Europe-wide crisis that dwarfs anything seen so far in Greece or Ireland.

  Financial analysts disagree on the likelihood of such a Spanish sovereign debt crisis, but they do agree that the risk is real and that existing European and international rescue mechanisms would be unable to cope.

  In part to avert just such an outcome, Spanish Prime Minister Jose Luis Rodriguez Zapatero’s government is slashing spending to lower the public deficit from 11.1 percent in 2009 to 3 percent in 2013.

  Many believe the plan is credible, especially coupled with announced sales of big stakes in the national lottery and airport operator.

  Spain’s government has repeatedly stressed that its accumulated public debt is below the EU limit of 60 percent of annual output, or GDP. It rose to 57.7 percent of GDP at the end of September from 53.2 percent at the end of 2009.

  However, the big concern for this year is that as investors get nervous about Spain, they could demand higher and higher returns in order to lend money both to the government and private sector. At a certain point, the rates could get so high that Spain might decide it is no longer worth seeking financing from the market.

  Spain’s central and regional governments and its banks need to raise about 290 billion euros (US$388 million) in gross debt on the market this year, including rolling over existing debt, raising their exposure to “funding stress,” Moody’s Investors Service said this month.

  If the 10-year interest rate on Spanish debt was to exceed 6 or 6.5 percent, it would become impossible for Spain to stabilize its public debt ratio in the future, Patrick Artus, an analyst with French financial services group Natixis, said in a report last month.

  At the last 10-year bond sale on Dec. 16, Spain’s government paid a return of 5.446 percent.

  “It is therefore reasonable to think that if investors turn pessimistic on Spain as we believe they will and if long-term interest rates exceed this threshold, Spain will have to, like Greece and Ireland, ask for support from other European countries and from the IMF,” he said.

  Natixis believes this aid would have to be forthcoming because of Spain’s weight in the EU — its economy is twice the size of Greece, Ireland and Portugal combined — and because of the massive amount of Spanish public debt held by European banks.

  Underlying the market concerns, Artus cited problems at Spanish banks that loaned heavily in the now collapsed property bubble, an economy with a 20 percent jobless rate and zero growth in the third quarter, and the difficulty of reducing the fiscal deficit.

  “The fate of the European Union seems to depend critically on Spain,” said Paolo Mameli, analyst at Italy’s Banca Imi.

  Any bailout for Portugal would be entirely manageable with the European mechanism set up in May, he said.

  “However, an effective speculative attack on Spain would be a different matter,” Mameli said, arguing that funds available would be insufficient for a bailout. “It therefore seems that Spain represents a sort of Maginot Line for European monetary union.”

  “The fault line in this vicious circle is that the Spanish government is solvent in spite of a sizeable debt deterioration of both its structural primary balance and growth outlook in the aftermath of the financial crisis,” said Tullia Bucco, an analyst at Unicredit Bank Milan.
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