It’s well and truly a Spain day.
Its 10-year yields may have ducked back below the 7 percent pain threshold but Madrid’s auction of two-, three- and five-year bonds could still be tricky. It is only aiming to sell up to 2 billion euros and should manage to thanks largely to weak Spanish banks buying them up but the five-year bond is likely to command yields last seen in 1996.
After that, an independent audit of Spain’s stricken banking sector is due to be published which will give a guide as to how much of the 100 billion euros offered by the euro zone the banks need to take to be recapitalized. Madrid may then make a formal request for aid at a meeting of euro zone finance ministers later in the day. We’ve had from sources that the audit will say up to 70 billion euros is needed but Spain would be well advised to take more to try and convince markets that it has all bases covered.
The audit is expected to divide the banks into three groups: the weakest regional savings banks heavily exposed to bad property debts, a group of mid-sized banks which face temporary liquidity problems and two ‘good’ banks – BBVA and Santander – that won’t need any help.
The announcement of the bank bailout two weeks ago did nothing to alleviate the pressure on Spanish borrowing costs. One reason was that if the money came from the euro zone’s new ESM rescue fund, it would be a preferred creditor over private investors who could then lose out in the event of a default. With the ESM only up and running at some point in July, one solution could be to start the bailout via the existing EFSF then switch it to the ESM, thereby operating under the former fund’s rules which say nothing about subordination. The Eurogroup could shed some light here too.
It has much else to discuss besides. No decision will be taken on whether to relax Greece’s bailout terms until the EU/IMF/ECB troika has returned to Athens to see how far off track Greece is but it seems a done deal that Spain will be given an extra year to meet its 3 percent of GDP budget deficit goal. That could come up. Cyprus is to decide by the end of the month whether it too needs a bailout to recapitalize its banks which have been damaged by the Greek crisis. That could well be discussed in Luxembourg too.