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Spain bailout: Shock and awe but no solution Add to ...

These are stories Report on Business is following Monday, June 11, 2012.

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Some shock and awe
Global stock markets cheered the bailout of Spain's banks today, but the optimism began to fade fast amid mounting questions and speculation over what's next..

As our European correspondent Eric Reguly writes in today's Globe and Mail, Spain asked the rest of Europe for a rescue of up to €100-billion for its banks on the weekend. But it's a short-term fix for the troubled euro zone, if it can be deemed a fix at all, because it doesn't address the underlying problems in the monetary union. Nor, of course, did the previous bailouts of Greece, Ireland and Portugal.

"The Spanish banking bailout is big enough for some shock and awe (€100-billion vs. talk of €40-billion) but details are murky," said Kit Juckes, the chief of foreign exchange at Société Générale.

Among the questions are who shares the burden, and just how much is Spain will be hobbled when it comes to talks over its debt troubles. Remember, in Spain it's a banking crisis at this point.

"And where is the growth coming from to make the problems go away?" Mr. Juckes said in a research note.

"The Spanish bailout doesn't solve Europe's woes ... but maybe it allows the rest of the world to focus on something else."

There are many other questions, as well, according to Adam Cole of RBC in London. From which bailout fund will the money come? How much will be involved in the final rescue? What will the ratings agencies say? And what terms will be attached to the funds?

"The IMF’s report on Friday concluded Spanish banks would need at least €-37-billion," Mr. Cole said, adding that the maximum of €100-billion is seen as credible.

As for the ratings agencies, he added, "the loans will add directly to the Spanish government’s liabilities and so increase the debt-to-GDP ratio by around 10 per cent, leaving further downgrades likely."

There's also speculation of how this might feed in to coming Greek elections. Spain has not been tied down by harsh demands attached to the bailout money, unlike Athens, where the austerity measures tied to its loans have sparked outrage across the country and given anti-austerity parties a tremendous boost.

"It would be a mistake to think everything is fixed," said David Jones, chief market strategist at IG Index in London. "Spain's economy remains mired in recession, and the big worry for now is that the lack of stringent austerity conditions will cause anger in Greece and hand the anti-bailout Syriza party a clear victory."

Chief strategist Michael Hewson of CMC Markets agreed on the potential fallout, and warned that Spain is by no means clear. Its economy is in the tank, and unemployment is the highest among the 17 countries that share the currency.

"Anti-bailout party Syriza could well paint this bailout as the EU blinking in the face of pressure to rescue Spain and this interpretation could well affect the election result this weekend in their favour," Mr. Hewson said.

"What is certain is that the loan, bailout or whatever you want to call it will push Spain’s debt to GDP ratio up by 10 per cent of GDP and in one of many European countries battling rising unemployment and in recession, it is by no means certain that the €100-billion bailout will be the end of the matter in a housing market crash that hasn’t reached rock bottom by any stretch of the imagination."

Markets began the day wildly optimistic, though the euphoria faded. Spanish and Italian bond yields, down initially, rose again, indicating the short-lived nature of the optimism.

Tokyo's Nikkei climbed 2 per cent, and Hong Kong's Hang Seng 2.4 per cent. Markets in Europe also surged, though pulled back some of the gains, and the optimism carried into North America as the S&P 500 and Toronto's S&P/TSX composite climbed.

 

China numbers better than expected
Policy makers in China seem to be breathing a little easier today on fresh data, Carolynne Wheeler reports from Beijing.

An interest rate cut late Thursday had economists forecasting that May’s economic indicators – scheduled for release over the weekend – would be even gloomier than April's results. But the numbers have not looked as bleak as expected.

Industrial production recovered slightly from last month, to 9.6 per cent year on year, from April’s three-year low of 9.3 per cent. Inflation was also down from April, to an even 3 per cent – a full percentage point below the government’s year-end target of 4 per cent.

"The May data brought evidence that conditions in China’s economy stopped deteriorating last month and may have moderately improved," said Qinwei Wang and Mark Williams of Capital Economics. "With its banks now pumping out loans to willing state-owned borrowers, we expect an economic rebound to follow."

 

What to watch for this week
If there's anything that's a hot topic in Canada these days, it's the housing market.

So watch later this week when the Canadian Real Estate Association releases its report on resales for May. Economists at BMO Nesbitt Burns expect the report to show sales up 7 per cent from a year earlier, and prices up 3 per cent.

"Led especially by Toronto, the overall Canadian housing market looked to have remained buoyant in the key May sales season (often the busiest month of the year for home sales)," said deputy chief economist Douglas Porter.

"Early returns show that sales in Toronto rose a solid 11 per cent from year-ago levels, and that strength was reinforced by double-digit gains in Calgary (up 35 per cent), Ottawa and Victoria," he said in a research note.

"Where Toronto has been especially hot this year is prices, although the city saw somewhat cooler gains of 6.5 per cent last month. Similar to 2011, Vancouver is the distant outlier - it was incredibly strong last year, but ice cold this year, with sales down 15 per cent year over year and average transaction prices off almost 6 per cent year over year in May. The fade in Vancouver will restrain national sales gains to about 7 per cent year over year, and should keep Canada-wide price increases calm at 3 per cent year over year. While a growing cadre of pundits wait breathlessly for a Canadian housing crash, the market just keeps grinding ahead amid still exceptionally low borrowing costs"

Investors will also get a fresh reading on the state of Canada's factories, which have been chugging along.

Economists expect to see a another pickup in sales when Statistics Canada reports sales among manufacturers in April on Friday, though short of the healthy 1.9-per-cent gains of March.

Also on tap is a U.S. report Thursday on consumer prices in May, which could show the first decline in two years. Economists expect to see a monthly decline of 0.2 per cent and an annual inflation rate of 1.8 per cent.

"Consumer prices should fall for the first time in two years during May, fuelled by an abnormally large drop in gasoline prices (raw prices fell 4.3 per cent)," said senior economist Michael Gregory of BMO Nesbitt Burns. "Flagging the start of the traditional 'summer driving season,' gasoline prices tend to motor higher in May, which will magnify the impact of any seasonally unusual decline on the headline CPI."

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