Rajoy Stealth Order Adds to Off-Balance Sheet Debt: Euro Credit

Spanish Prime Minister Mariano Rajoy added more than 3 billion euros ($3.9 billion) to his debt load in the closing hours of 2012 with a New Year’s Eve order removing a cap on utilities’ government-guaranteed losses.

The decision, announced in the official gazette, added to the snowballing power-tariff debt, which isn’t included in the public accounts. The shortfall exceeded 20 billion euros at year end, according to government filings.

Spain’s government-controlled electricity system has raised less revenue from consumers than it pays to power companies for most of the past decade. Officials have covered the difference with bonds in the so-called FADE program.

“With an explicit guarantee, any final losses are passed on to the Spanish taxpayer, as happened in Ireland with its banks in a bigger scale,” said Ciaran O’Hagan, head of European rates strategy at Societe Generale SA. “This is quite a large amount if a permanent solution isn’t found soon.”

Spain’s commitment to reducing its budget deficit has waned after the European Central Bank’s pledge to backstop sovereign debt drove down bond yields. Even with a deficit that the European Commission says will exceed targets, Spain’s borrowing costs have plummeted since ECB President Mario Draghi pledged to do whatever necessary to preserve the euro. Ten-year yields fell 2 basis points to 5.09 percent at 11:33 a.m. in Madrid, down from a euro-era high of 7.75 percent on July 25.

Selling Bonds

The Dec. 31 announcement, which was tacked onto a law governing pension rights for domestic cleaners, allows the government to sell bonds under the FADE program. Without the help from taxpayers, utilities such as Iberdrola SA and Gas Natural SDG SA would be obliged to finance the industry deficit.

The outcome marks a victory for Budget Minister Cristobal Montoro over Industry Minister Jose Manuel Soria. They have tangled for the past year on confronting the energy deficit. Soria pledged in September to meet the 1.5 billion-euro deficit limit for 2012 and eliminate it this year. The shortfall for last year probably reached 4.8 billion euros, according to the power-industry lobby.

Soria’s plan fell apart after Montoro left 2.1 billion euros of subsidies to cover repayments on accumulated tariff debt out of his 2013 spending plan. That measure accounted for almost half of the extra revenue Soria anticipated for the sector, with most of the rest covered by a 7 percent tax on generation approved in December.

No Statement

The aid “has been booted out of the national budget,” Shai Hill, a power-industry analyst at Macquarie Capital Europe Ltd., said in a telephone interview. “There was no statement from Montoro but the fact that it’s not in there tells you it must be back within the ‘energy-system costs’ and thus needs to be recouped” from consumers.

Montoro also rejected Soria’s bid for a proposal to strip subsidies for powering the Spanish islands out of the power bill last year, Hill said. In August, Montoro overruled a Soria plan to tax renewable energy producers to claw back subsidies.

“We shouldn’t get distracted by this,” Montoro said in an Aug. 14 interview. “People are worried about other things. Why would we increase social tension with measures we can’t really explain?”

A spokesman for Soria declined to comment. A spokesman for Montoro didn’t reply to three calls seeking a response.

Eight-Month Drought

Spain resumed FADE issuance in October after an eight-month drought as the ECB’s bond-buying plan boosted demand for government-backed debt. The state has sold 2.18 billion euros of FADE bonds since then. It uses the proceeds to repay Iberdrola, Gas Natural and Enel SpA unit Endesa SA.

Titulizacion de Activos SGFT, the manager of the FADE program, is in the process of selecting arrangers for the next bond issuance, according to its website. Banks seeking to work on the transaction were asked to file proposals by yesterday.

FADE’s 1.8 billion euros of 5.6 percent coupon bonds due in 2018 traded at 104.8 cents on the euro as of Jan. 4, up from 98.2 cents before the ECB announced its bond purchase plan, according to Bloomberg prices. They yielded 4.58 percent, or 49 basis points more than similar maturity government bonds, the smallest gap since Oct. 22, Bloomberg data show.

Behind the political spat over whether the electricity-system losses wind up on the government’s balance sheet lies the structural challenge of reining in the cost of powering the Spanish economy. The ECB’s intervention has enabled Spanish officials to push the liabilities down the road.

Funding Needs

The Spanish government needs to borrow as much as 230 billion euros this year to finance its deficit and repay maturing bonds, Treasury chief, Inigo Fernandez de Mesa said today. Public debt jumped 17 percentage points to 85 percent of gross domestic product last year.

Without action, the power debt would reach about 50 billion euros by 2015, Soria said last year. The 2012 deficit equates to about 70 percent of the profits of Spain’s four biggest power companies.

The burden poses a problem of the same order as the toxic real estate assets that forced Rajoy to request 39 billion euros of bank aid from Europe last year, according to Cesar Molinas, former head of European fixed income at Merrill Lynch now a partner at CRB Inverbio private-equity fund.

“It’s on the scale of the bank rescue,” Molinas said in a telephone interview. “That’s what we are heading for.”

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