April 10, 2012
So what triggered the market fears yesterday?
Well, as we’ve pointed out, concern had been growing for the past month. A less than impressive bond auction last week hinted that Spanish banks may be reaching the limit at which they can absorb more Spanish sovereign debt (a problem since they’ve been the only buyers recently). In particular, markets seem to be worried about the sole focus on austerity over growth. Last week’s budget fell squarely into this camp, as did today’s announcement that Spain would find a further €10bn by increasing the efficiency of educational and health spending (these spending areas are controlled by regional governments and as we have noted numerous times, they do not take kindly to having austerity imposed on them and often lack the will or ability to fully implement it).
There is also growing concern about the state of the Spanish banking system – and with good measure given its massive exposure to the bust real estate and construction sectors. Spanish banks’ provisions against losses on this exposure are likely to prove far too small, especially as house prices fall further and economic conditions sour. As the Spanish Central Bank Governor said today:
“If the Spanish economy finally recovers, what has been done will be enough, but if the economy worsens more than expected, it will be necessary to continue increasing and improving capital as necessary in order to have solid entities.”
With the recession set to worsen in Spain and much of the eurozone (Spain’s main trading partners), as well as house prices set to fall by possibly another 35%, things look destined to get worse. Just to drive this home the IMIE Index of house prices fell by 11.5% year on year in March – the largest decrease yet.
All in all then, a combination of long-held fears seemingly confirmed by the actions and comments of Spanish state officials and some sour data played a role in setting off the market jitters yesterday. That said, once the fears were put in motion it was always going to be difficult to stop. At some level this is likely to be a correction to the massive post-LTRO optimism seen on European markets, but there are definitely valid concerns underlying it – this is only the beginning of the problems in Spain.