Monday, 22 February 2010

Report from Credit Suisse

In its latest report the Swiss bank issues a finding to the effect that the Spanish economy is far too big to bail out, meaning in effect that the Spanish state debt is so great that if the country had the same problems as Greece, the other members of the EuroZone would be forced to let Spain fall down a hole in order to protect their own interests. The report also adds: "We see Spain as more of a concern than Greece with significant over-leverage, high current account deficit and overvalued housing." This view is also echoed by the head economists in Deutsche Bank who have stated previously that Spain going bankrupt would bring the economies of France and Germany to their knees.

Main Points:

Re: Spain:

➣ A general lack of competitiveness and wages need to fall by 6% until 2014
➣ Spain is overleveraged in both the household and corporate sectors
➣ There is a high current account deficit, standing at 6% in 2009, that means a loss of competitiveness but it also highlights the extent that Spain is dependent on overseas capital
➣ The Spanish Corporate sector has been operating at a deficit for more than a decade
➣ The Spanish housing market is amongst the most overvalued, with prices generally being about 60% higher than the UK and at least 12% above a fair value
➣ At least 90% of outstanding mortgages are variable-rated
➣ The government is unable to control public finances
➣ Over the last decade the population has increased by 16% and 75% of this figure is from immigration

The advantage of countries such as Greece and Ireland is that they are relatively small, only making up 2.78% and 1.8% of the Euro GDP respectively. The large size of Spain - 11% if the Euro GDP makes any kind of bailout much harder

The report also adds this about Greece:

The recently approved version of the new EU Treaty includes a specific article on the procedure for voluntary exit from the European Monetary Union; however it is not meant as a quick fix for competitiveness or fiscal issues, and we highlight the following issues:

➣ A withdrawal from the EMU is not just an issue of competitiveness, it would automatically lead to an exit from the European Union from a legal standpoint and hence the potential loss of other EU benefits;

➣ Any withdrawal must be agreed by other members and cannot happen overnight. This reduces the benefits of devaluation, and this withdrawal would not be a quick fix for the competitiveness problem Greece would re-enter the area soon afterwards at a newer - lower - exchange rate. There are also other issues - there is no currency to revert to and the introduction of a new currency would need time and careful planning (which may not be accepted by the citizens of Greece as the new currency is bound to be weaker). The Greek financial system could be isolated with significant costs to the economy;

➣ A one-sided exit by Greece from the EMU would be a breach of the Union Treaty. If it involves repudiating the debt or any negative consequences for the remaining member economies, they could react by - for example - withholding monies and benefits due to the departing state under other treaties, and could even refuse to recognise the new currency;

➣ Interest rates would be likely to go up sharply and there would be no certainty that even a large depreciation versus the Euro could improve the competitive position of Greece for more than a short period, whilst a new currency would probably be a source of economic noise and stress rather than a boost for competitiveness as Greece could potentially be denied the privileges of the single market, negating any benefits from a devaluation and even cause Greece to redirect its exports to other markets.

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