Spain Downgraded, Bank Bailout Expected Soon

Madrid is expected to formally request financial help from its European partners over the weekend to help its ailing banks.

German chancellor Angela Merkel, her foreign minister Guido Westerwelle and Prime Minister Mariano Rajoy of Spain confer on the sidelines of a NATO summit in Chicago, May 20 (Bundesregierung)
German chancellor Angela Merkel, her foreign minister Guido Westerwelle and Prime Minister Mariano Rajoy of Spain confer on the sidelines of a NATO summit in Chicago, May 20 (Bundesregierung)

Spain is expected to formally request European financial support to bail out its banking sector over the weekend, making it the fourth eurozone economy to need outside help.

The move comes after the Fitch rating agency downgraded Spain’s sovereign credit rating by three notches on Thursday, highlighting the country’s banks’ high exposure to bad property loans and the risk of contagion from Greece’s debt crisis.

Spanish banks were weakened by the bursting of a property bubble in 2008. The European debt crisis has put further pressure on the nation’s financial institutions.

If the Greek parliamentary elections next weekend fail to deliver a government that is committed to adhering to the conditions of that country’s bailouts, the contagion to Spain, it is feared, could be almost immediate. Greece appears increasingly likely to leave the single currency union. European banks which have financed Greek deficit spending through the years stand to lose billions if there is a new Greek currency and devaluation.

Spain’s finance minister Cristóbal Montoro Romero admitted on Tuesday that his country needed outside help to prop up its financial industry. “What we need is for the European institutions to get going and seek that bank recapitalization through those procedures that mean more Europe,” he said.

Fitch, in its rating report, puts the cost of recapitalization at around €60 billion under the best case scenario which is higher than the €40 billion estimated by the chief of Spain’s largest bank Santander on Monday.

The International Monetary Fund, which publishes a report next Monday, is said to put the recapitalization needs of the Spanish banking industry at a minimum of €27 billion and a maximum of €37. The Fund could recommend an injection of up to €40 billion to provide a buffer against the short term effects of the Greek election and potential default.

Europe’s present rescue mechanism, the European Financial Stability Facility, has the capacity to make the loans. The fund was authorized to borrow up to €440 billion. There is some €250 billion remaining after Ireland and Portugal had to request bailouts in 2010 and 2011 respectively.

The EFSF, however, is not allowed to lend money directly to companies. Other European countries could borrow on behalf of the Spanish government which then uses the money to bail out its ailing banks.