11th June 2012
The ultimate level of the bailout will be decided by European policymakers: "Olli Rehn, the EU's top economic official, made clear on Sunday that it would be the European Commission and other international experts, and not the Spanish government that would decide how much Spain's banks need."
To date, the figures have varied wildly.
Until this weekend, a number of analysts thought that a relatively modest €40bn might shore up the ailing banks: "One estimate, based on the current situation in Spain, says €40 billion would cover the refinancing needs of the 10 banks including Bankia, which Madrid plans to rescue with an historic bail-out worth €23 billion. The second, €80 billion scenario addresses the possibility of a severe Spanish recession that would require a rescue of the entire banking sector. But sources told ABC that this nightmare scenario was considered "unreal.""
That said, most analysts suggested a final bill for the Spanish banks at somewhere between €60 and 200 billion, but the Spanish budget ministry said Tuesday that the figure would "not be very high." Of course, this is just a few days after it suggested no bailout was necessary. It appears now that the Spanish Government believes that the Spanish economy is in the ‘unreal' scenario. This apparent indecision has not helped Spain's credibility in financial markets:
Many of the early estimates came from the IMF. Its report into the Spanish banking system says: "The findings indicate that while the core of the system appears resilient, vulnerabilities remain in some segments. Under the adverse scenario, the largest banks would be sufficiently capitalized to withstand further deterioration, while several banks would need to increase capital buffers by about EUR 40 billion in aggregate to comply with the Basel III transition schedule.
However, crucially the report adds: "Capital needs in these banks would be larger than this, as they would also include restructuring costs and reclassification of loans-for instance for lender forbearance- that may be identified in the recently launched independent valuations of assets." In other words, the bank need a certain amount of cash to bring them to regulatory compliance and then another amount to sort out their problems for the long term.
Some have put a significantly higher figure on the ultimate cost of the bailout.
JP Morgan analyst David Mackle suggests that the total cost of bailing out Spain may cost €350bn, and that is with a relatively conservative €75bn priced in to bail out the banks. He explains it thus: "Before Spain asks for admission into the liquidity hospital we may see the SMP (Securities Market Programme) reactivated. But, given that the Spanish situation looks increasingly like a solvency crisis – the government is not solvent enough to recapitalise insolvent banks – the ECB is unlikely to view the SMP as an appropriate long term response to this problem. More likely, SMP purchases would simply be used to limit market turbulence while a traditional bailout package was negotiated.
"If a Spanish EU/IMF bailout package covered the government's gross funding needs through the end of 2014, and included €75bn for bank recapitalisation, then it would amount to around €350bn. A traditional package would keep the burden of adjustment squarely on the shoulders of the Spanish taxpayer. Spain could be accommodated in the liquidity hospital as currently designed, but a Spanish admission would force the region to think hard about both the size of the fiscally based liquidity hospital and its funding. It would push the region closer to a hybrid liquidity hospital, where governments provide capital and the ECB provides funding."
Worst case scenario?
This Eurozone crisis has a tendency to gravitate to the worst case scenario. At its current level €100bn would not breach the EU's €440bn European Financial Stability Facility (EFSF) (of which some has already been spent on Greece, Ireland and Portugal) and the €60bn European Financial Stabilisation Mechanism (EFSM), but it leaves it with little room for manoeuvre.
Perhaps the most important aspect is for Spain to restore its credibility with markets. Unless, its government can prove that it has a handle on the situation, the cost of the bailout is likely to rise: "The Spanish problem was entirely avoidable," said Thomas Mayer, an economic adviser to Deutsche Bank AG in Frankfurt. "When Bankia got into trouble and they had to inject another 19 billion, the market thought, well, they don't know what they are doing."
It may be that the Spanish government is simply being prudent, ensuring that it requests a sufficiently large bailout that it does not have to go back to the market a second time. However, the rate at which the cost of the bailout is rising could trouble markets when they have dispensed with their initial euphoria.
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