Spain’s borrowing costs are likely to soar at an auction of 12- and 18-month T-bills after its 10-year yields were pushed through the totemic 6 percent level on Monday. The history of the euro zone debt crisis shows that once above 6 percent the spiral accelerates and before you know it you’re at 7 percent – the level generally seen as unsustainable for state financing.
Worryingly, Spain is dragging Italy’s yields up in its wake. But in Spain’s case, there are strong reasons for caution about imminent disaster. The government cannily used ECB-created benign market conditions in the first part of the year to shift nearly half its annual debt issuance needs already and the banks – which look like they will need recapitalization at some point – are well funded for now having also loaded up on the European Central Bank’s three-year liquidity splurge.
We also know Europe’s banks, too scared to invest elsewhere, are depositing 700-800 billion euros back at the ECB daily. If Madrid could engender a shift in confidence, some of that money could flow back into its bonds, particularly by Spanish banks.
There is no getting away from the fact that confidence has evaporated since Prime Minister Mariano Rajoy ripped up Spain’s agreed deficit target for 2012 without consulting his partners. One way of clawing it back could be a framework that would guarantee the autonomous regions would agree to tough debt-cutting measures.
Last year’s ballooning of the deficit beyond forecast was in large part down to the regions’ spending. Government sources told us yesterday that Madrid may intervene to curb regional finances, which account for around half of national public spending, in return for some help in raising finance from the markets which some are finding difficult. Ministers meet the regional government heads on Wednesday. They have to present plans to save around 15 billion euros in early May.