Spain asked IMF not to reveal troubles in banking sector in 2009

The date was March 11, 2009. Banks had collapsed across the world: in the United States, Britain, Germany, France, The Netherlands and elsewhere. But not in Spain.

In fact, at this point Spain was still boasting about a formula that was going to spare it from the great global debacle: its counter-cyclical provisions, or money set aside by the lenders that went beyond required capital buffers, with a view to covering spikes in nonperforming assets during bad times.

And yet, at a meeting of the International Monetary Fund’s executive board held that day to analyze the evolution of the Spanish economy (known as Article IV), what emerged was a picture of alarm due to Spanish lenders’ overexposure to real estate at the time of the property bust.

Just 18 days after this meeting, the Bank of Spain stepped in to bail out the regional savings bank Caja Castilla-La Mancha (CCM). It was the beginning of a process of mergers and nationalizations that would reduce the 45 savings banks operating in 2009 down to the current 15.

The chief economist for Spain recommended that the government keep “dry gunpowder” in storage

At that meeting of the IMF board, Ramón Guzmán, executive director for Spain, asked the mission analysts not to focus just on the system’s weaknesses but instead to concentrate on asking for structural reforms; he also complained about the toughness of the stress tests the banking sector was subjected to, according to the declassified minutes of that encounter.

“We have two concerns about the communication policy for these stress tests,” began Guzmán, who went on to say that he was awaiting instructions from his superiors regarding the publication of the results, “given their sensitive nature and their implications for extreme market volatility at this stage.

“I hope the Board will understand this common sense of prudence,” he added.

After calling the stress tests “extreme,” “unrealistic” and based on “technically debatable assumptions,” Guzmán continued: “More importantly, technicians have been balanced in their conclusion presentations and directors have been balanced in their written statements, but less well-informed people and the press could interpret the IMF’s advice to the [Spanish] authorities as though the IMF were solely focusing on the importance of maintaining that reserve ammunition for capital injections to the banks.”

The trouble with the banks is, they don’t trust one another but they also don’t trust themselves”

Guzmán went on to say that Spain viewed the other advice regarding structural reforms as more valuable.

The chief economist for Spain, Bob Traa, had recommended that Spain keep “dry gunpowder” in store to deal with possible requests for further public aid to banks, even if at that point it did not seem necessary.

Meanwhile, the representative of the European Central Bank, Georges Pineau, said that Spanish authorities deserved “credit” for their work so far but warned that there could be trouble up ahead, given that 60 percent of the banks’ loans were tied up in the real estate market. “Uncertainty surrounds the savings banks because their exposure to the sector is considerable,” he said.

The report that ultimately came out did not insist on the banking system’s weaknesses, but it retained the warnings about capital reserves; the board furthermore warned about the vulnerability of the savings banks.

By October, the Spanish government had announced extraordinary measures to deal with lenders’ liquidity problems because of restricted access to credit and growing bad loan rates.

Five months before the IMF meeting, in October 2008, Spain had created a €50 billion fund to shore up the sector, and raised personal deposit guarantees to €100,000. Loan default rates had been close to five percent that summer, the highest level in 13 years. “The trouble with the banks is that they don’t trust one another, but they also don’t trust themselves,” said Bank of Spain governor Miguel Ángel Fernández Ordóñez at the time.

That budget would eventually become the Orderly Bank Restructuring Fund (FROB), which started out with €9 billion but has the theoretical capability to hand out as much as €100 billion.

The year 2009 saw the beginning of the crisis in the Spanish banking sector, for which the government ultimately did not have the necessary capital reserves. Three years later, Madrid was forced to ask its European colleagues for a bailout to help out its struggling lenders.