Spain Real Time Data Charts

Edward Hugh is only able to update this blog from time to time, but he does run a lively Twitter account with plenty of Spain related comment. He also maintains a collection of constantly updated Spain charts with short updates on a Storify dedicated page Spain's Economic Recovery - Glass Half Full or Glass Half Empty?

Monday, June 23, 2008

The Spanish Treasury No Longer Accepts Italian Government Bonds

The Spain Treasury announced last Friday that it was no longer willing to accept Italian government paper as collateral for short term loans. In part the move is a reflection of the deteriorating liquidity situation inside the Spanish banking system, and in part it reflects the rather negative outlook on Italian government debt as continuing lowest-low economic growth makes it difficult to see how Italy can possibly hope to balance its budget by 2011, thus making holding Italian government debt a progressively more risky decision as that deadline approaches.

Spain's Treasury has said it is nopw only willing to accept the highest-rated government debt as collateral for short-term loans, a move that will exclude Italian government bonds. As of July, Spain will only take AAA rated bonds registered with the Spanish clearing house Iberclear as collateral for overnight repurchase agreements, or repos, according to Enrique Ezquerra, deputy director of public debt at the Spanish Treasury. Since Italian debt has been systematically downgraded in recent years, and Standard & Poor's now rates Italy's debt at only A+, while Moody's Investors Service has it at Aa2 this clearly means that Italian paper no longer qualifies. Italy's debt rating was lowered by both Standard & Poor's and Fitch Ratings in October 2006 on concern that problems in containing the deficit would lead to further increases in what is already the EU's biggest debt by volume over the coming years.

Basically the Spanish Treasury lends surplus cash to broker-dealers to boost income from financial holdings and in return receives collateral. Following the sub prime crisis in the United States last August the Spanish government expanded the range of securities it would accept as collateral to include foreign government bonds and AAA rated private debt since the strong budget surplus Spain was running at the time meant in had plenty of cash on hand.

Now Spain's budget surplus is rapidly disappearing as government spending rises in the face of the rapid economic slowdown while income is decreasing. Also, the Spanish banks, for whom this measure was really intended are finding themselves in an increasingly difficult liquidity gridlock, hence whatever help, no matter how small, they can receive from the government is more than welcome. Thus this move needs to be seen more in a Spanish than an Italian context. It is however a warning shot for Italy, since Italian paper (after its Greek equivalent) is the most difficult to place of any European government (and particularly given its volume), thus the Spanish decision can also be seen as a desire for the little window they have opened to become a repository for unwanted Italian debt.

In a Bloomberg interview Enrique Ezquerra described the move as "a partial step back....We will continue accepting AAA corporate bonds listed in the Spanish fixed-income market. This includes asset-backed securities and covered bonds.'' Perhaps I would say rather than a step back it is an attempt to close a loophole and focus attention on the real problem which is how to fund the Spanish cedula hipotecarias (the local version of mortgage-related covered bonds).

I would also say that this relatively small and seemingly trivial decision is just one more symptom of the sort of strains the eurozone's "twin deficts" (Italy's public debt - circa 103% GDP 2007 - and Spain's current account deficit - 12% GDP Q1 2008) are likely to place on the smooth working of the eurosystem ten years after it was originally set in motion.


philip from santa clara said...

Informative post (and site). Is there any prospect of a turn around? If the housing slump were to continue on its same course for one more year, where would this leave Spain? Can the banks stay open? Can the economy handle such a loss of employment?

Edward Hugh said...

Hello Philip,

"Is there any prospect of a turn around?"

Of course, there is always the possibility of a turn around. But when will that be, in three years, in five years, in a decade?

I don't know, it depends on what happens next. I can't imagine it could possibly be next year. I think next year things will still be deteriorating.

Spanish people will need to start saving, in particular to cover their external deficit, so this means that domestic consumption is unlikely to become a growth driver again in the foreseeable future. That means growth being driven by exports, and this will need a huge transformation, especially given the comparatively high value of the euro.

"Can the banks stay open?"

Good question. Maybe some of them can't. We will only know as we get to see. A lot depends on what kind of rescue package the government finally puts together. There are precedents for all of this from Japan 1992 and Germany 1995. They could learn something from those experiences if they were willing to listen.

"Can the economy handle such a loss of employment?"

Well yes. Economic systems are pretty robust things at the end of the day. This doesn't mean that it might not be hard, and that we might not be talking about shaving several percentage points of annual GDP growth at some stage. Remember a lot of the Spanish GDP growth has been very employment intensive, so losing employment can have a similar impact.

The question might be can Spanish civil society stand a return to higher levels of unemployment among native Spanish? What happens to all the immigrants here is going to be crucial in any longer term turnaround.

OK, I have a much longer post here, which examines the key structural components of this crisis if you are interested.