By Julien Toyer -
SPANISH Prime Minister Mariano Rajoy will find it tough to avoid asking for a full-scale sovereign bailout despite steps taken at an EU summit to help the country's indebted banks and pressured borrowing costs.
Euro zone leaders agreed to let their rescue fund directly inject aid into Spanish banks from next year and buy bonds to support troubled member countries, to try and curb a regional debt crisis that threatens the single currency.
But the deal lacks details and Rajoy, who struggles at the EU negotiating table, will face long and difficult talks to finalise the rescue, while the recession deepens, the public deficit rises and one in four of the workforce has no job.
Investors and officials say the steps may not be in place quickly enough to stop the country needing more cash to keep the state afloat on top of up to 100 billion euros made available to fund the banks.
"Spain remains at risk. Its total debt, public and private, is still massive... It will be key to see if the recapitalisation can be done quickly enough," said one European union official who attended the summit.
At least 40 billion euros is needed soon to stop lenders Bankia, CatalunyaCaixa, NovaGalicia and Banco de Valencia collapsing, Spanish government sources say and it is not clear where that money will come from. Spain is due to sign a memo of understanding for the bank recapitalisation programme by July 9 but many details are vague.
In addition, the government must continue to carry out its regular debt financing programme, with around 100 billion euros of issues still left this year. The Treasury has around 40 billion euros in cash in its coffers thanks to better market conditions earlier in the year but a hump of 27.5 billion euros maturing in the last 10 days of October looks especially challenging.
Part of Spain's problem is that the government, which has insisted it does not need a sovereign bailout, has sent a series of confusing signals about the state of public finances and the banking system.
Rajoy has lost most of his credit with fellow European leaders and may find it hard to quickly shore up confidence. Yields on Spanish bonds have edged lower since the summit but doubts about the deal have begun to creep into the market.
"At best he's been very clumsy but I'd rather say he's been dreadful," said the official. "We'll see how long he can resist and keep funding his country at these costs."
Spanish 10-year yields slipped 4 basis points to 6.36 per cent yesterday, but that is not far from the 7 per cent level that has proved to be unsustainable for other euro zone countries' finances.
The 40 billion euros for the banks will push Spain's debt as close to 84 per cent of gross domestic product at year-end, while continued high bond yields could send it higher.
Rajoy is mulling new tax measures, including a rise in valued-added tax, a new energy levy and ending property tax breaks, to compensate for the rising deficit. But many say this will just deepen the country's second recession.
The central government deficit was 3.41 per cent of GDP from January to May, close to the end-year target of 3.5 per cent. Although the European Commission and Germany have said Spain could take an extra year, until 2014, to bring its deficit under the 3 per cent limit allowed by EU rules, Madrid is under close scrutiny from its EU partners.
Investors, who had been spooked by the prospect of an up to 100 billion euro European banking bailout relegating private creditors to the bottom of the repayment queue should Spain ever default, welcomed the decision of EU leaders to waive this rule in Spain's case.
They were also pleased at the possibility that the cost of recapitalising banks would be transferred to Europe's rescue fund as of 2013, reducing the impact on Spanish debt.
"In a nutshell, we think that the Europeans have cracked open more doors than we thought, but they still have a lot on their plate. There will be more 'crucial summits'," said Gilles Moec, Economist at Deutsche Bank.
The European official said there were many unanswered questions after the summit. Dispelling the "constructive ambiguity" of the meeting could be painful, he said.
Although Spain aims agree the outlines of the 100 billion euro bank programme by July 9 the government has said it would carry out another stress test of its banks by October with a focus on seven lenders.