In a research note published today by UBS its economists wrote the latest events in Spain suggest a recapitalization of the banking sector is “becoming more likely” - and that the government could afford to take the strain of the costs associated with injecting up to €100 billion of fresh capital into the banking sector. Concerns over the stability of the Spanish banking system have heightened in recent days, increasing the likelihood of a banking sector recapitalization, on reports of up to €100 billion of capital outflowsfrom the country since January, the bulk of which has been foreign investor outflows via loans, deposits and repos.
Should the situation deteriorate further, analysts argue a recapitalization of the entire banking sector is likely, and affordable.
“Without the recapitalization, we expect Spanish debt to hit 81% this year, peak at 85% in 2014 and then trend down to 76% by the end of the decade. Assuming a bank recapitalization worth €100bn, the debt would instead pass 90% this year, peak at 94% in 2014 and then decline to 84% by 2020,” wrote Matteo Cominetta, an economist at UBS in London.
He added: “These numbers suggest that, although putting considerable pressure on the sovereign market, the recapitalization would not push the debt to unsustainable levels.” Adding to the sanguine tone, a senior Spanish banker tells Euromoney that while there is real concern about the rising level of capital outflows recorded in recent months, press reports have exaggerated the extent to which Spanish retail depositors have withdrawn moneyfrom their bank accounts to send abroad. He said most of the capital outflows have come from foreign investors.
To monetize or not to monetize
Crucially, the success of any recapitalization will depend on how the Spanish government can fund it and whether the ECB decides to allow the proposed - and controversial - debt for equity swap. The Spanish government has lobbied hard to convince the ECB of the legitimacy and urgency of its plan - in the teeth of rapid opposition from hawkish observers - to inject Bankia with Spanish government bonds in return for equity, which could then be swapped for cash from the central bank.
UBS believes it is unlikely that a recapitalization of the entire banking sector funded by the ECB in this way could take place. Indeed, in an interview with Euromoney this week, former ECB official Lorenzo Bini Smaghi cried foul at this proposal. But UBS analysts say economic and political logic suggest it should form part of the recapitalization solution.
“There is a whole host of ways in which the government could fund at least the Bankia recap, via sovereign paper sales to internal buyers or similar. This may buy time but would not necessarily restore investors’ and depositors’ confidence in the banking sector,” wrote Cominetta.
He added: “The time to do so is running out, in our view, but the way to do so is there: a clean recapitalization via ECB, privatizations, the European Financial Stability Facility/European Stability Mechanism or IMF.”
Source: UBS