Unsustainable pressure

Spain and Italy are making drastic decisions in an extreme situation. The financial variables in the bailout zone (on Monday the Spanish risk premium rose above 640 points, and the 10-year bond yield over 7.5 percent) amid the markets’ shrinking confidence in the government’s handling of the crisis, and in the policy of the EU financial authorities, particularly the ECB, toward Spain, which may well be termed one of premeditated punishment. On Monday Italy and Spain decided to cut off the speculation against their stock market assets, prohibiting short-selling (betting, with borrowed shares, on a drop in the share price to buy them back more cheaply, pocketing the surplus), which was depressing the stock markets and causing a near-panic situation. In both cases (Italy has prohibited it for a week and Spain until October 23) the decision is a sound one, and should calm the feverish pressure on the bank assets of the two countries.

The decision is only an emergency remedy. The pressure on Spanish debt is reaching unsustainable levels, which may drive Treasury assets off the market in the short term. Investors have lost confidence in Spain’s economic management; the announcement of new adjustments and tax hikes, even if they make strategic sense such as the latest ones — so awkwardly explained by the government — is not producing the desired effect on the markets. It is not that the investors are acting irrationally, as Economy Minister Luis de Guindos put it; they just lack confidence and bet against the euro. In this anguished situation, when the economic policy emanating from Brussels and the IMF is failing, the ECB’s refusal to intervene in the secondary market is surprising and harmful.

ECB President Mario Draghi’s formal reasoning is that the bank is not there to solve the problems of euro-zone countries; it is there to curb inflation. But if this were the bank’s function, then how to understand its governing role in national bank bailouts, or its sermons on the austerity of others? The reasons are so feeble that they can only be seen as poor pretexts. Either the ECB is not intervening because the pressure of anti-intervention countries is stronger than the defense of the common currency, or because self-restraint forms part of a strategy of punishment of the countries with high rates of indebtedness and deficit, to be kept up as long as no signs of improvement are apparent in their financial variables. If the bank considers that the EU institutions are empowered to intervene, then by now they should be ready for a bailout.

If the ECB considers that the EU institutions are empowered to intervene, then by now they should be ready for a bailout

The answer likely lies between one explanation and the other. If so, the game is a dangerous one. For, as Draghi should know, there exists the risk of a sudden stoppage in a country’s financing, a moment when the demand for that country’s assets is zero or near to it. At this moment the debt drops off the market, and the country must be bailed out or default on its payments.

The Spanish economy cannot, on its own, fulfill the first condition for recovery of growth, which is to stabilize the debt differential. The recession is deepening, as the Bank of Spain reminded us on Monday, with its estimate that GDP contracted during the second quarter by 0.4 percent, or 1.0 percent in year-on-year terms. All this will intensify the lack of confidence in the debt, the pressure of the markets and the urgent need of a bailout, either by the ECB, which is the immediately possible one, or by the European Rescue Fund.