Winds From Spain Now Bother Markets

Europe In General Raises All Eyebrows

Whenever a wind blows through European sovereign bond markets, be it cold or warm, U.S. markets respond. Any action in Europe that girds perceived weakness strengthens markets....until the next wind of insecurity. Earlier this week, a wind of insecurity in U.S. markets was realized, and had been developing over a few days. Last couple of days markets sloughed off insecurities through not only Alcoa's unexpected profits, but also by a speech made by a member of the ECB suggesting support for Spanish bonds.

Spain creates nervousness firstly because of its place in the Eurozone (EU member states using the euro). It ranks number 4 in economic size behind the lead of Germany, France, and Italy. Confusing is that the United Kingdom is a member of the EU, but doesn’t use the euro.

Most disturbing with Spain is while being number 4, or 5, among commonly regarded European economies, without dispute it leads unemployment....with a rate of 23.6%. Putting this number into perspective, Greece's unemployment numbers are not available and the country with the highest rate of CDS spreads recently, being Portugal, is at 15% . While the rate for the Union is at 10.2%.

Spain’s Unemployment Compounds With Export Data And Housing Prices

Troubles do compound for Spain. Reports from the IMF to the OECD tell of increasing goods flowing from high wealth countries into Emerging Markets (EM). South Korea is a microcosm of trade reported by Eurostat on March 27, 2012. Report says the EU trade deficit between the trade partners fell from a European deficit of 18B euros in 2006 to only 4B euros in 2011. Major advances on trade rebalancing. (China's trade surplus, turned deficit is also something to look at).

Point for Spain is that while global rebalancing has benefited the EU, Spain lags with a continued but improving deficit of 752 euro. Creating the European Union's advance on trade with South Korea are Germany showing a surplus of 3,377 million (M) euros, France with 1,809M in surplus, Denmark's surplus is 239M, and then a surplus among Finland, Sweden and U.K. of 338M.

A ranked number 4 European economy that only leads among all nations in unemployment, but lags other EU nations in developing export growth? Add to these considerations a real estate market that has fallen by 20.6% in home prices since 2008 according to the National Statistic Institute's Home Price Index. Spain set a record for itself in price declines just in Q4 2011, by declining 4.2%.

Austerity Against Declining Real Market Dynamics

Market problems in Spain may reflect more of a structural nature, by having become cultural. And, as with Greece, very hard to reform. Last year Spain pledged itself to fiscal discipline and austerity, but failed the target.

Trying to reduce reliance on raising money through issuing sovereign bonds, Spain said last year that it would cut its budget and thereby its public deficit to 6% of GDP. Spain also said it would cut its habit of debt financing and public debt in similar fashion. By the end of 2011, Spain missed its target and its public deficit came in at 8.5% of GDP.

Currently, Spain is setting an even more ambitious target than the one missed when GDP was positive. Spain currently promises to reduce public debt against its failed efforts when GDP was positive. Now, Spain proposes public deficit cuts of 5.3% of GDP in 2012, and then to 3% in 2013.  

Problems really magnify for Spain when recession comes and GDP declines, in fact for the entire EU. Public debt having previously been issued on stagnant terms, such stagnant terms don't move dynamically as does evolving GDP.

Spain’s GDP grew in 2011, but only minimally. Currently, its GDP is negative and projections for 2012 show Bank of Spain seeing a contraction of a full -1.5%. Echoing recession for the year is accounting firm Ernst & Young forecasting a decline of -1.2%.

Missing austerity targets in times of positive GDP tell of missing targets when GDP looks to decline. Declines in GDP (dynamic revenue) magnify existing debt (static payments), and probably was a reason why Spain’s public debt and deficit came in well above target reductions, despite real reductions.

Can ECB Really Save The Day Again

Confronting challenges, on Wednesday an executive board member of the ECB, Benoit Coeure, gave a speech wherein support will be given to Spain, and the markets have not rewarded Spain enough for actual efforts, or accomplishments….I remain confused between whether Spain has actually accomplished, or has simply set laudable goals. I might have missed the clarification in the speech. Nonetheless, on the day of the speech, Wednesday, markets moved very positively, as with today.

Looking at Spain’s place in the largest economy in the world through a union of countries, looking at Spain's unemployment, weak exports and real estate, one can’t help but get very cautious. Add to these factors Spain’s decreasing GDP and a debt that doesn’t correspondingly decrease. Where is the money going to come from?

ECB potentially? Can it? With so many sour sovereign bonds developing on its bloated balance sheet?