Spanish Prime Minister Mariano Rajoy may be damned if he does and damned if he doesn’t.
The Spanish leader, whose domestic support plunged after he raised taxes and cut spending in breach of campaign pledges, is reluctant to seek a bailout because of the political cost of meeting the financial conditions his economic rescuers would demand. Yet if he doesn’t, he risks seeing an evaporation of the recent decline in Spanish yields largely from expectations he will draw on the help offered by the European Central Bank.
Rajoy may just be postponing the pain because markets will force his hand, say investors such as Craig Veysey, head of fixed income at Principal Investment Management Ltd. in London, part of Sanlam Group, which oversees $72 billion.
“Yields have come down a reasonable amount so they don’t feel as though they are in such a rush to accept a full sovereign bailout,” he said. “The market position will change if Spain continues to remain relatively reluctant. It’s just a bit of short-term political posturing and they will be forced by markets to move in the direction of asking for proper support.”
Pressure may come as early as next week when Spain seeks to sell bills. Also, European finance chiefs meeting today in Cyprus have put Spain’s attitude toward aid on the agenda, with France said to be pressing the Iberian nation to request help from the European Union to contain the euro-area financial crisis and consolidate recent gains in southern European bonds.
Spanish 10-year bond yields have fallen 77 basis points since Sept. 5, the day before ECB President Mario Draghi said the bank could buy cash-strapped nations’ debt if they seek help from the region’s government-run rescue mechanism first.
Spain’s 10-year benchmark bond yield was at 5.64 percent as of 12:07 p.m. London time today, down from 7.17 percent on Aug. 2, when Draghi first said the bank would buy bonds to stem the crisis, and 6.41 percent on Sept. 5, the day before he fleshed out the proposal. To hold Spanish 10-year debt, investors demand 395 basis points more than comparable German securities, down from a euro-era high of 650 basis points on July 25. The spread earlier touched 394 basis points, the least since April 5
Rajoy has been saying since early August that he needs time to assess the details of the plan. The Spanish leader, who denied the nation needed a rescue for its banks two weeks before asking for one, risks undermining the Spanish bond rally.
“A bailout has largely been priced in, particularly at the front end,” said Lyn Graham-Taylor, a fixed-income strategist at Rabobank International in London. “Yields will come under pressure” if no bailout is accepted, he said.
Sliding yields prompted Deputy Economy Minister Fernando Jimenez Latorre to say on Sept. 12 that there is no “urgency.”
“The important thing is that when whatever assistance that is needed is requested, that it should be well received in the markets,” he told reporters in Madrid.
Rajoy said on the same day that he may not need a second bailout because the ECB’s pledge already cut borrowing costs.
“I don’t know if it’s necessary for Spain to ask for it, let’s see how the risk premium evolves in the coming period,” Rajoy told lawmakers in Parliament in Madrid. He will take the decision to protect “Spaniards’ interests” after assessing the conditions, he said.
Rajoy found support for his stance from German Finance Minister Wolfgang Schaeuble who said in an interview yesterday that Spain “would be daft” to ask for a bailout.
“I’m one of those who says we should do everything possible to convince the markets that this speculation against Spain is without any basis in reality,” Schaeuble said.
Rajoy faces regional elections on Oct. 21 and has been accused by opposition Socialist leader Alfredo Perez Rubalcaba of holding off on the decision until after the vote.
The Spanish premier is trying to avoid surrendering more control over the economy after handing power over the financial system to the EU in exchange for a 100 billion-euro ($131 billion) bank rescue.
“Rajoy’s reluctance is a risk,” said Werner Fey, a fund manager at Frankfurt Trust Investment GmbH, which oversees 6.5 billion euros of fixed-income assets. “Before the ECB decision we went to neutral from underweight on Spanish debt. For the time being we’re staying neutral.”
The Spanish leader said this week he won’t let the EU dictate spending limits on individual policy areas such as pensions or health care.
Rajoy has already announced more than 100 billion euros of tax increases and spending cuts. He’s struggling to meet a budget-deficit target of 6.3 percent of gross domestic product this year from 8.9 percent in 2011.
Spain is in its second recession in three years. The country’s 25 percent unemployment rate has left it with Europe’s largest army of unemployed people, raising the specter of more social unrest.
Spain will likely miss its targets as a deepening recession undermines tax revenue, analysts Jaime Becerril and Axel J. Finsterbusch at JPMorgan Chase & Co. wrote last month.
The EU’s July 10 recommendations for Spain spell more pain. That document sets out measures in eight specific policy areas that include raising the retirement age, tackling struggling banks and boosting high school graduation rates.
With little on the horizon likely to change the country’s economic woes, Rajoy has little choice but to take the hand extended by the ECB, Nobel laureate Christopher Pissarides, an economics professor at the London School of Economics, said in an interview with Bloomberg Television on Sept. 12.
“The situation in Spain is not improving, there is really absolutely no benefit in waiting,” he said. “There isn’t anything in the pipeline that will ease the situation.”
As far as the bond market is concerned, the choice has already been made for Spain, said Patrick Armstrong, a managing partner at Armstrong Investment Managers LLP in London that oversees $350 million.
“The main question is if it will do it sometime soon, in a position of relative market calm, or wait and potentially create another near-crisis before its request,” he said. “The market will force it to ask if Spain does not.”