Spain’s Risky Game of Pretending it
Doesn’t Need its Neighbor’s Money

Originally, to save its collapsing economy, the Spanish government decided it would access the credit markets itself. But as interest rates on Spanish government debt skyrocketed, Spain realized it needed the help of its eurozone neighbors and the European Central Bank (ECB) to stay afloat.

Spain then moved on to create a “bad bank”—a government-owned bank that would purchase all the bad assets currently held by country’s banks with proceeds from a eurozone bailout fund.

But now the Spanish government has flip-flopped on its position about accepting any bailout funds from eurozone countries to avert the debt crisis it faces. The Spanish government now wants to avoid any bailout from the eurozone countries. (Source: The Guardian, September 11, 2012.)

The main reason for this change of heart: the Spanish government believes that it has reformed its financial system too many times already and doing any more reforms would further weaken its economy.

The ECB is insisting it will only intervene to help Spain once the country has accepted “strict conditionality” of the eurozone, which means more austerity measures. (Source: BBC News, September 11, 2012.)

It is interesting to see the situation unfold here. The Spanish government is facing a debt crisis like no other. The Spanish economy has the ingredients mixing for all sorts of trouble, including higher skyrocketing unemployment and a housing bust.

From the looks of it, the Spanish government does not want to look needy to the eurozone, so it isn’t forced to accept bailout terms similar to Greece’s. The ECB and other eurozone countries are calling for stricter controls over Spain’s financial system and Spain is resisting tougher financial responsibility.

I remember when Ireland was the first eurozone country to face extreme financial pressures because of the eurozone debt crisis. The Irish government put forth the same resistance. It was election time in Ireland and the government did not want to look needy. Eventually, the financial crisis deepened and a bailout was suddenly needed by Ireland.

Spain will need bailout money from the other eurozone countries. It can deny that it urgently needs the money, but in the end it will be desperate for, and will take, the funds. A collapse of Spain’s economy would cripple the eurozone and send the world deeper into a global recession. That’s why it will get bailed out.

Where the Market Stands; Where it’s Headed:

All eyes are on the Federal Reserve Open Market Committee today. Will it announce a third round of quantitative easing (QE3) today or not? We’ll know in a few hours. In the meantime, the stock market has rallied to recognize the fact QE3 is a done deal. Let’s hope Ben Bernanke doesn’t disappoint.

What He Said:

“When I look around today, I see falling stock prices…I see falling house prices…and prices for retail goods stores declining. The media has it all wrong blaming (worrying about) inflation. In my opinion, the single biggest threat to the U.S. economy and to the Fed in 2008 is deflation. You can bet the Fed will expand the money supply and drop interest rates aggressively as deflation starts to rear its ugly head.” Michael Lombardi in Profit Confidential, December 17, 2007. Michael was one of the first to warn of deflation. By late 2008, world economies were embedded in their worst state of deflation since the Great Depression.