Spain Becomes the 4th Country in the Eurozone to Receive a Bailout

Over the weekend, EU finance ministers agreed what was already hotly speculated in last Friday’s markets; that Spain would seek and receive a bailout to help the indebted country to contain a spiralling banking crisis that threatened to deepen debt contagion across the euro area.

A two and a half hour conference call with 17 EU finance ministers on Saturday – which was described by many as ‘heated’ – concluded with an agreement to loan Spain as much as €100bn to help shore up finances at its banks.

The total loan amount is set to be confirmed once Spain concludes a full audit of the fiscal situation to which its banks now find themselves in after a property market collapse saw toxic loans rise and unemployment beset one in four adults.

The bailout sees Spain’s name added to a list that includes Greece, Ireland and Portugal as those that have now requested and received bailout funds.

The bailout funds will arrive from the European Financial Stability Facility and/or the European Stability Mechanism, with the IMF – whose role was rumoured to be one of the major triggers for heated debate on the conference call – playing no role in providing financial assistance and providing a mere ‘monitoring’ role over banking sector reform.

Nothing to celebrate
The bailout is nothing to celebrate however, despite the market cheer on Monday morning that saw the Spanish benchmark equity index rally over 4.5% in early trading, which were it to close with its early gains, would mark its best trading day since November last year and would rank amongst the Index’s top ten performances in the past four years.

Spanish 10yr bond yields also fell 11 basis points to head back towards the 6% level, whilst the Euro traded over 100 pips higher against the US dollar from Fridays close.

Depending on which side of optimism or scepticism you reside, the bailout either qualifies the severity of the fiscal deterioration within the indebted countries of the euro area or reminds of the determination that resides in Brussels, Berlin and Paris to maintain the solidarity of the eurozone and reinforce is glass fiscal walls from constant shattering.

One thing is for sure, a bailout for Madrid marks yet another significant phase of the euro idea.

Image above details Spanish 10yr Bond Yield (black) vs Spanish IBEX Index (red)

Whilst the bailout helps to reaffirm the fact that Spain has successfully secured financial assistance, we will not find out the exact loan amount required until the results of the country’s own bank stress tests are revealed later this month. A high number will naturally keep a degree of uncertainty in the markets though many investors and EU politicians are fairly confident this number will not breach €100bn. We also do not know the conditions that will arrive alongside the bailout. What will it mean for Spanish austerity or deficit targets? What power will the EU have if the fiscal situation in Spain continues to falter and how will this affect the bailout money? These questions remain unanswered at this point.

Other countries are watching
And let’s not forget that the rest of the euro area is watching developments in Spain also as an indication of what to expect should similar fiscal inadequacies falter their own financial system. A lack of strong economic conditions or targets handed out to Spain is likely to be used as a bargaining tool by any victory of the leftist anti-austerity party in Greece, should they win the election on the 17th June. EU politicians will do well to recognise this fact.

It must also be reminded that a Spanish bailout is not a solution to the euro problem, or even the Spanish banking problem. It is a plaster made of bank notes at a time when the heart of the Spanish banking system requires serious surgery. This is why we are seeing equity markets rally strongly today yet the longevity of this rally remains in doubt.

The Euro remains an ‘idea’
I talk of the eurozone as an ‘idea’ simply because it still remains as just that, an idea. Its a concept that has neither been proved yet as valid or invalid, yet remains the subject of hot debate by investors and indeed many others in the market, most of which remain unconvinced that the euro can survive in its current format.

Each phase of the euro crisis poses a powerful test to the euro idea and the next test is now likely to take place on 17th June, with the second general election in Greece, which could see the anti-austerity party take control.

There remains the likelihood that the culmination of the crisis in the eurozone will see the birth of a two speed euro, which allows the stronger nations to pull away from the drag emanating out of the PIIGS nations (Portugal, Ireland, Italy, Greece and Spain).