Spanish Fleas

The pain in Spain stays mainly in the banks.

Okay, it doesn’t rhyme. But the point is that the crisis in Spain isn’t one of sovereign excess or overly-generous pensions. It’s about the banking system. During the boom, property prices soared as wealthy Britons and Germans bought vacation condos on the Costa del Sol. But when prices turned south the banks got hammered. Now over 8% of Spanish banks’ loans are nonperforming, and the assumption is that the country will have to come in and rescue them. That’s a problem; the three largest banks have $2.7 trillion in assets—twice the size of Spain’s economy. Spanish banks aren’t too big to fail, they’re almost too big to save!

By contrast, Spain’s government debt is only about 70% of its economy—considerably less than the US or most other European nations. And the European elites do have a grand plan in place. It involves supporting the banks with central bank liquidity, reforming labor markets to encourage economic growth, and reduced spending on current expenditures, along with some tax reform. But reform is hard when unemployment is 24%. Still, public support for the Euro is strong.

So Spain’s banks are in trouble and the government is on the hook. They might need as much as $100 billion—8% of their economy—to shore them up. As I wrote before, though, banking is only part of the Europe’s three-fold problem, while in Spain, it’s the main issue. The weather in Spain may clear, but the markets can see a lot of turbulence ahead.

Douglas R. Tengdin, CFA
Chief Investment Officer
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