Photo: Blazquez Dominguez/Getty Images
Spain has been fighting with Greece to take centre stage at the heart of the euro crisis right now, with borrowing costs hitting record highs.10-year yields wavering above the important benchmark of 7 per cent at which other European countries have requested a bailout, and its economy is falling deeper into recession.
A housing bubble broken by the financial crisis has ravaged the banking system and spread into the greater economy. Without the help of Spain-specific monetary policy—and amid more and more rounds of austerity measures—it appears that these problems will only grow worse in the future. Further, the troubled banking system threatens to breed an infection that could spread through the rest of the European financial system.
Whatever the European Central Bank may promise to do to help, Spain’s problems go far beyond monetary policy.
Societe Generale analyst Michala Marcussen wrote earlier this year that home prices will likely fall another 15 per cent in the 2012-2013 period. They have already dropped 25 per cent from their peak.
Citi's Willem Buiter argued in a similar note that the decline in Spanish land and property prices is probably less than halfway complete. He ultimately expects them to drop 60 per cent from their peak.
Most of Spain's debtors are non-financial corporations and households who will continue to default regardless of aid for the government and banks.
Manufacturing is unlikely to dig the country out of recession. Spain's manufacturing purchasing managers' index in June came in at 41.1--the worst reading in 37 months--showing that the economy is contracting sharply.
The Spanish government has passed its harshest austerity measures since becoming a democracy 30 years ago.
The latest austerity measures imposed include €65 billion ($80 billion) in spending cuts and tax increases by the end of 2014. That included an increase in the VAT from 18 per cent to 21 per cent, and drastic reduction in the number of state-owned businesses.
Source: RTE News
Popular dissatisfaction with austerity measures could compromise the effectiveness of austerity policies. Spain's legislature could call early elections if public outcry against austerity policies escalates, and local elections could tip the balance and render the government inefficient.
Former Prime Minister Jose Luis Rodriguez Zapatero called early elections last year after he failed to pass a budget.
Spain has already failed to bring its budget in line with EU standards, and recently raised deficit estimates.
It is now shooting for a total budget deficit equal to 6.3 per cent of GDP this year, revising downward its deficit outlook to 2.8 per cent in 2013. It had to revise targets higher for 2012 from a goal of 4.4 per cent EU leaders had initially demanded.
Source: Fox News
Spain's banks aren't the only ones in trouble. Poor spending habits have led autonomous communities to face impossible funding hurdles.
Earlier this month, Valencia became the first region to formally request a piece of the €18 billion ($22 billion) in funding promised to Spanish regions as part of the bank bailout. Reports that three other regions are exploring seeking help through this mechanism--and speculation that others might eventually do the same--has increased pressure on the Spanish government as it struggles to fund itself.
Borrowing costs are shooting higher, hitting levels not seen since before the European Central Bank offered the first of two three-year LTROs in December.
Yields on 10-year government bonds have soared above 7.6 per cent recently, with investors doubting Spain's ability to fund itself long-term.
Even yields two-year bonds have been rising fast, hitting 6.53 per cent on July 26. This is particularly worrisome since it seems that any positive effect of the LTRO has vanished.