Why Spain’s in for Some Hurt

By Wednesday, May 30, 2012

unemployment rateSpain has an unemployment rate of 25%, which is startling given the dire financial condition of the ninth largest economy in the world and the fact it’s in its second recession in three years. Even worse, the youth unemployment rate is a staggering 51%. No jobs translate into less spending. Retail sales in Spain plummeted 9.8% in April, according to the National Statistics Institute. The decline represented 22 straight months of contraction. The retail picture also looks somewhat cloudy in the U.S., which I discussed in Retail Picture Remains Cloudy. (PC051012)

The massive reduction in spending means stagnant economic growth, which in turn translates into less tax revenue for the government at a time when the national debt is 712 billion euros or about $892 billion. That’s about $19,391 per citizen. Now the Spaniards need to deal with the country’s debt and muted growth; but, compared to the situation in the U.S., it doesn’t look that bad. The U.S. has nearly $16.0 trillion in debt or $50,101 per citizen. That’s huge and we all realize the financial mess the U.S. is in, but then that’s another story.

The reality is that Spain is critical to the eurozone in terms of its size and importance in the region’s economic engine. If Spain fails, as was the case with Greece, the aftershocks will likely be significant not only to the eurozone, but also the global economies, including China, which is Spain’s sixth largest trading partner since relations started in 1973. The European debt crisis and muted growth in the eurozone have impacted China and in turn the Asia-Pacific region. Lower consumption in China means less demand for foreign goods made in Asia, the eurozone, greater Europe, the Americas, and other key trading partners.

According to the Bank of Spain, the Spanish economy will contract until the end of the second quarter. I think the growth will remain negative or flat at best. For the year, Spain is estimated to see its economy contract by 1.7% and will impact the eurozone.

At risk is the country’s banking system. When the economy is contracting and people lose their jobs, you know that, after seeing it here, the banking system will be impacted. Bankia, Spain’s fourth-largest bank, is currently seeking a record bailout of 19 billion euros, or about $23.88 billion, in order to deal with the massive amounts of bad loans on its balance sheet.

Bankia had been a private bank that was partly nationalized in May 2012 by Spain after the bank nearly went broke, so there is some baggage already with this bank.

Spain must halt the rise in the country’s debt yields. The 10-year yield is at 6.5% as of May 29, quickly approaching the critical seven-percent level that is widely viewed as dangerous. The high yield places pressure on Spain in higher financing costs and is not sustainable given the country’s troubled debt and muted growth. The high yields are an indication of potential problems down the road for the country and the eurozone.

I expect the situation in Spain and the eurozone will unfold over the next several quarters, but the reality is that I do not see a clear-cut solution here. Unfortunately, the government and International Monetary Fund will likely jump in to save Spain and the eurozone.

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About the Author, Browse George Leong's Articles

George Leong is a senior editor at Lombardi Financial. He has been involved in analyzing the stock markets for two decades, employing both fundamental and technical analysis. His overall market timing and trading knowledge are extensive in the areas of small-cap research and option trading. George is the editor of several of Lombardi Financial’s popular financial newsletters, including Red-Hot Small-Caps, Lombardi’s Special Situations, Judgment Day Profit Letter, Pennies to Millions, and 100% Letter. He is also the editor-in-chief of a... Read Full Bio »