The call for help from the Spanish government to fill the holes in its banking sector raises many questions.
The lack of details about the agreement and the persistence of tensions in the markets suggest a loss of investor confidence in Europe’s ability to find a systematic solution.
An exclusive financing of the EFSF is unlikely, it is better to expect a combined intervention of the EFSF and ESM , through the FROB.
A forced recapitalization of the banking system seems unlikely. This would be detrimental to all bondholders and would freeze access to financing from all interested parties.
Although the distribution of losses threatens the holders of hybrid and subordinated debt, the holders of senior bonds or guaranteed bonds appear to be less exposed, at least in the short term.
The possibility of additional losses in real estate loans, combined with the economic contraction, could cause a further downgrade of the Spanish sovereign rating and repercussions for supranational, corporate and financial issuers.
Review of proposed measures for the recapitalization of banks
At the moment we know that the measures proposed at least initially represented 100 billion euros channeled through the FROB . On the other hand the two royal decrees announced this year, in order to cover the losses of real estate and financial investments of banks have been about 54 billion euros , which would reduce coverage levels to a much more realistic level than the previous one.
Pending an independent evaluation of the health of the Spanish banking system, and taking into account its defective structure and the results of the stress tests of the banks by the EU, it is believed that the real cost of the rescue of the Spanish banking system exceeds the 100 billion euros. The temporary dimension is a determining factor, with profit generation being a key tool for banks to cover their losses.
What recapitalization model?
A bank recapitalization decided by a government, like any political decision is difficult to predict. Taking Ireland as a model, we could deduce what could happen to banks that require large injections of public capital.
1. Holders of hybrid and subordinated bonds (Tier1, UT2 and LT2)
These values represent a significant shared risk of losses, through coupon deferrals and coercive liability management (LMEs), as would be the case in Ireland.
Furthermore, although it is set to take effect no later than 2018, the Irish experience suggests that any additional legislation necessary to impose shared losses on the holders of subordinated bonds could be adopted very quickly.
The political will in Spain to impose losses on the holders of subordinated bonds could be lower (or more difficult to implement) than in Ireland, a large part of these being held by politically sensitive partisans.
2. Senior bondholders
No impact expected in the short term.
The distribution of losses in the holders of senior bonds is unlikely in the short term , the ECB strongly opposes for reasons of financial stability.
We can not exclude an eventual distribution of longer-term losses, especially for non-viable and non-systematic institutions, particularly if the cost of recapitalization endangers Spanish public finances.
3. Guaranteed bonds
Neither is the distribution of losses expected for the bonds guaranteed immediately, being these excluded from the field of requalification of the debt in the recent proposal of the EC. This asset class is also an important systematic particularly useful funding as benefits.
Classification without changes
Santander and BBVA should be able to meet the new solvency requirements using their own resources, and it is thought that the regulator will not force them to strengthen their capital. If these banks decided to request assistance from the FROB, it would probably be quite limited and without preferential conditions.
Where will the funds come from?
Whatever the final size of the rescue plan, it is likely that the funding will come from the EFSF (EFSF), the ESM (European Stability Mechanism) or a combination of the two.
With or without Spain the load is heavy
At the risk of putting the knife back into the wound
Potentially the rescue plan adds about 10% of GDP in the debt ratio of the Spanish government, bringing it close to 100% of GDP in 2015 or earlier. This strong increase would increase the need for State funding. If the recapitalization of banks remedies their immediate needs, it also increases the government’s liabilities and exerts additional pressure on their solvency . What in the eyes of rating agencies does not have a positive influence.
The government’s limited access to foreign financing has revealed its growing dependence on national banks as the main buyers of its new issues. In turn, these banks need ECB funds to buy these bonds.
In the end it seems that this is only a partial solution to a much bigger problem for the euro area as a whole.