By
Richard
Bailey
:
This is when you know that the effort to save the Euro (
FXE
) from itself has entered the realm of the absurd.
As we all know, over the past weekend Spain asked the Eurozone
finance ministers for €100 billion to stave off the possible
collapse of its banking sector.
Setting aside for a moment the problems with Spain's banks -
which are probably unfixable absent out and out default - let's
take a peek into one of the more ridiculous aspects of the latest
bank bailout.
€100 billion is a lot of money. We'll leave for another day the
fact that it may not be enough to solve the actual problem. But
€100 billion is still a whole lot of money.
So where will this money come from?
First, let's throw away the alphabet soup of bailout financing
mechanisms currently inhabiting the continent's financial
landscape. It doesn't matter whether it comes from the ESM, EFSF,
IMF, ECB, LMNOP. Forget all that. We'll just call them the
Alphabetacrats from here on in.
What does matter is that the money to be turned over to Spain
for this bailout can only come from one place - the EU's member
nations themselves. Now they in turn have two places to go for the
money - taxpayer receipts or the capital markets.
Now, along comes Italy, one of the six core states of the
European Union. In this bailout, it is estimated that Italy is on
the hook for approximately 22% of the money to be forked over to
ailing Spanish banks. That means that the Italian government will
have to contribute €22 billion.
This is where it goes from silly to stupid.
Italy does not have this money.
They run a modest budget deficit
so they are going to have to borrow it from the capital markets so
the Alphabetacrats can then "lend" it to Spain.
As of this morning, yields on 10 year Italian bonds were
6.13% (a 483 bp spread over 10 year German
bonds).
Let's not forget that any interest rate above 7% is widely
considered to be unsustainable in the current crises. In short, the
bond market wont buy 7% 10 year notes because they don't believe
they will be repaid. So clearly Italy itself is flirting with
financial peril. This ain't news.
But in order to live up to their commitment to the Spanish
bailout, they will have to borrow €22 billion. At today's 10 year
bond yield that will obligate them to investors who buy the bonds
approximately €1.348 billion in interest per year.
Now, here is the really stupid part. The Alphabetacrats are
going to take this money from Italy and turn around and lend it to
Spain at a rate of approximately 3%.
So to meet their obligations under the disclosed terms of the
Spanish bailout, Italy has agreed - in advance - to receive €660
million for a loan which cost them €1.348 billion. That means a
cash strapped country like Italy has agreed to lose/throw
away/burn/donate roughly €688 million to its Iberian neighbor.
That's if their neighbor pays them back at all.
Meanwhile, all this has now been blessed and approved and
commented upon by policy makers as a positive step to restore the
marketplace's confidence in the banking system. I guess that €688
million in a crisis where trillions are being thrown around is
pretty much pocket change.
But regardless of the amount involved - just how again does
insolvent nations borrowing at 6% to lend to insolvent nations at
3% restore confidence?
Disclosure:
I have no positions in any stocks mentioned, and no plans to
initiate any positions within the next 72 hours.
See also
Sandy Falls On Gold Plated Sword
on seekingalpha.com