the world's economic leaders, including economists at the European Central
Bank, the European Union, the International Monetary Fund, and the U.S.
Federal Reserve, supported by most of the mainstream financial media,
assured the world that the debt agreement worked out between Greece and
its creditors would help put an end to the European-wide debt crisis. In
reality, the crisis has merely been papered over. Despite the broad rally
in stock and bond markets over the past few weeks, I firmly believe that
Greece will likely require another bailout within a year.
all of Greece's fiscal problems, another overstretched southern European
nation, Spain, has taken over as the principle actor on the sovereign
bankruptcy stage. Unfortunately for the rest of the world, the Spanish
economy is nearly five times larger than Greece's. The implications for a
Spanish default, then, are proportionately even more severe.
of the hand wringing over Greece, the numbers involved were never large
enough to seriously threaten the entire global financial edifice. A Greek
meltdown would have likely infected the rest of the planet with the
economic equivalent of a bad cold. But debt contagion emanating from
Spain could be that country's most dangerous export since the Spanish flu
pandemic of 1918-19 (which killed some 5 percent of the world's
population). If, as some have suggested, a Spanish crisis could lead to
questions being raised about France's economic health, the resultant
fallout could be the global financial equivalent of pneumonia.
How is it
that only a few weeks ago the Eurozone's debt problems were pronounced as
'contained,' yet now Spain has suddenly arrived on the doorstep of a full
blown crisis? In reality, recent events were a long time in coming.
the case with Greece, Spain likely falsified its national accounts to
gain entry to the Eurozone. Membership promised a strong currency and
access to a steady stream of buyers to snap up their sovereign debt at
relatively low costs. In order to extend the power base of the EU, and to
realize the somewhat naïve dream of European unity, the stronger
nations of the Eurozone perhaps turned a blind eye to Spain's accounts.
Furthermore, EU politicians ordered the granting of massive amounts of
cash to countries such as Portugal, Italy, Ireland, Greece, and Spain
(PIIGS). These grants acted as effective political bribes to ensure the
parliamentary approval of pro-EU legislation. It was a fix and a disaster
waiting to happen.
years into the financial crisis, things continue to look very bad for
Spain. They are still reeling from the bursting of one of the largest
housing bubbles on the Continent and social tensions are rising on recent
austerity-driven reforms. During the boom, the government spent massively
on ill-advised infrastructure projects but, despite all this, unemployment
is now at 24 percent overall and, among the young, it's well over 50
percent (see Andrew Schiff's discussion of Spain's wasteful
infrastructure spending in
a previous newsletter). Like other southern tier countries, Spain has
dismal demographics, with a rapidly expanding pool of retirees and
extremely low birthrates. The result is a diminishing pool of young
workers who can pay for the lavish retirement benefits promised by the
still, government officials misled markets about the true severity of
their economic plight. The former government maintained that Spain's
debt-to-GDP ratio was some 60 percent. Now it emerges that this figure is
at least 90 percent and possibly approaching 200 percent when government
guaranteed debt is included.
Spanish bank borrowing from the ECB doubled, which indicated a serious
decline in bank liquidity. If, as some expect, Spanish real estate
declines by an additional 30 percent, the banks will need more cash to
prevent defaults. And although the government of Prime Minister Mariano Rajoy has committed to an ambitious austerity program
to reduce the government's budget deficit to 5% of GDP this fiscal year, many have questioned whether he has the courage,
or even the authority, to see the plans through. To many, the country
appears to be following a path much like the one Greece traced out last
markets tend to punish financial dishonesty severely. Yields on Spanish
bonds are widening with their ten-year debt having breached the 6.0
percent level for the first time since December. Later this week Spain
faces a major auction of ten-year bonds. Expect markets to be paying
gained by papering over Greek and Italian problems has allowed French and
German banks to shed some of their Spanish debt holdings. Voters and even
government officials in these nations, then, may be less willing to exert
themselves to save Spain. When markets finally realize, however, that
debt default [may be - is perhaps] imminent, buyers may be nowhere to be
found. The risk of a disorderly Spanish default could spread rapid
destabilization, putting enormous pressure on the already weak euro.
implications of the present situation in Spain could be more far reaching
than is currently anticipated and the contagion it represents could lead
to a fundamental change in the world's monetary order.