Saving Spain: Europe Opens Bailout Floodgates

When the Maastricht Treaty – the constitution for the EU – and the common European currency were created, Europe’s politicians were adamant about creating the most fiscally solid, financially prudent economy in the world. There were tight fiscal rules in place to keep government budgets out of deficit; the new central bank, the ECB, was designed so that it would not bail out either governments or banks; and there were no euro-denominated government bonds, because that would have set a runaway government debt train in motion.

The theory looked good. Nothing was going to rock the boat.

Today, after two decades with Maastricht and one decade with the euro, reality has steamrolled theory into the ground. Several governments, from the Netherlands and Belgium to Spain and Greece, have chronic budget problems. Bailouts of governments and banks are being discussed as if the very purpose of the ECB and the EU were to get overspending governments and troubled banks out of the jam.

Europe is now opening the bailout floodgates. First came the Greek rescue, which for all intents and purposes has only made the situation go from bad to worse. The bailouts and EU-imposed austerity programs pushed the Greeks to the brink of electing a totalitarian government that will secede from the euro (which still may happen). With that success on their resume, the European sisters of fiscal mercy now turn their attention to Spain. The EU Observer explains:

Eurozone finance ministers on Saturday (9 June) agreed to disburse up to €100bn for Spain’s troubled banks, but without an accompanying austerity programme as for Greece, Ireland and Portugal.

Spain already has its own austerity programs. That is why the Eurocrats are not adding that venom to the package. But wait and see what happens when Spain’s own austerity programs don’t deliver (and we know they won’t).

The funds will be channelled directly to a state-run fund for bank rescues in Spain, the Fund for Orderly Bank Restructuring, but the Spanish government will sign a memorandum of understanding and “will retain the full responsibility of the financial assistance,” the Eurogroup said.

In other words, if the “restructuring” goes to Hell in a handbasket, Spanish taxpayers will pick up the tab. This is extremely ironic given the how this crisis started. First the government overspends, and does not want to raise taxes to pay for it, because that would enrage taxpayers. So instead they borrow the money from the banks. Then government gets into trouble honoring its debt, and their bonds move frighteningly close to junk bond status. That spells asset management problems for the banks who bought the bonds, whereupon these banks need a bailout.

By the very same taxpayers that the overspending government wanted to shower with government money without paying for it.

The welfare state comes full circle.

And just show how delicate the situation is in Europe, the EU Observer explains that finance ministers of the EU, together with the IMF, are scrambling frantically to stabilize a situation that otherwise could explode into an uncontrollable political situation. An IMF report on the Spanish crisis…

…was released three days ahead schedule, as eurozone finance ministers sought to seal a deal before markets open on Monday and before crucial elections in Greece next weekend. The prospect of Greece cancelling its second bail-out and possibly exiting the eurozone drove Spain’s borrowing costs into bail-out territory and led to a downgrade by Fitch ratings agency.

And don’t expect the country’s own austerity programs to change that. Nor should anyone expect that higher capital requirements on the banks will help. On the contrary: a worldwide move toward tighter banking regulations that is on the way for unrelated reasons are already endangering any kind of global economic recovery; additional tightening at the national level will only accelerate that negative trend. It will be harder for small businesses to get credit; consumers will have tougher times financing durables like homes, cars and appliances; the economy will see less spending, less investment and fewer jobs. That means fewer taxpayers and less tax revenues for the welfare state and its never-ending entitlement programs – the root cause of all Europe’s trouble.