What’s Going On with the Spanish and European Banking System?

A branch of Santander in Cardiff, United Kingdom, by Peter Clayton
Banco de Santander in Cardiff (UK)

The other day, a reporter asked me three questions about the current state of Spanish and European banking. Among all the areas of economic analysis, I find monetary economics and banking most interesting. In 1992, together with three coauthors, I published one of the first articles about general equilibrium economics that had the word “banking” in the title (see here).  In addition, in the book I am currently writing, Macroeconomics for Almost Everyone, the chapter “Money and Banking” is one of the ones with which I am particularly pleased. (see here).  

In any case, before offering my opinion about the state of banking, I would like to clarify that the perspectives from within and from outside banking are quite different. I also want to clarify that in the case of banking, making generalizations is dangerous, and especially, that it
is important to distinguish between different entities. Keeping my reservations in mind, below are the questions and my answers from the interview:

BBV Building, Madrid, by Xauxa Håkan Svensson
BBVA building, Madrid

1. What is your opinion about the progress of bank restructuring in Spain?

As is almost always the case in economics, the answer depends on the terms of comparison and about the entities in question. In retrospect, if we make very general comparisons between the Spanish banking sector today and that of 2007, I think that it is notably better off : regional savings banks as such have virtually disappeared, the number of banking institutions has decreased to more or less half and because as Spanish taxpayers we have funded the shutting down or nationalization of the weakest entities.

If we look toward the future and compare the Spanish banking sector with the one that will remain after the Eurozone consolidates into a banking union, we still have a long way to go.  In my opinion, in a future monetary union, there will be too many entities, some Spanish and European banks  will still have the ability to hide their problems with valuation on their balance sheets and they could still hide losses in their P&L statements. The stress tests that the Bank of Spain needs to carryout on Spanish entities, followed by those that the ECB will carry out on the large Eurozone banks before summer 2014, could yield some negative surprises.

European Central Bank

2. What do you think about the quality of Spanish bank assets?  How do they compare with other European banks?

Like I said earlier, I am not privy to Spanish or European entities’ statements. However, from the outside, and again, making broad generalizations, it is evident that many Spanish entities are still managing the collapse of their real estate asset prices  and the default of construction companies and mortgage holders. And it is also very likely that some of the large European entities continue to infect the system with toxic assets based on U.S. high-risk mortgages . However, despite these problems, the market price of assets tends to be pro-cyclical. If the situation improves, then the plight of these entities will begin to improve. But, if the situation worsens, those particular problems will deepen.

3. What is the likelihood that a third bailout of Greece would infect Spain or that another country within the EU would need a bailout?

The probability that Greece would request a third bailout at some point in 2014 is quite high , and it is possible that another Eurozone member would also need a bailout of its banking system , similar to the Spanish case.  If this were to happen, there is a strong likelihood that the situation would spread to the Spanish economy, specifically its public debt. It bears reminding that the Spanish economy continues to be very vulnerable and the Spanish public sector’s financing needs for 2014 are in the range of 250 billion euros.

About Javier Diaz-Gimenez

Prof. Díaz-Giménez has dedicated most of his professional life to doing research and teaching macroeconomics. His recent work explores the macroeconomic consequences of fiscal policy and pension system reforms. He has published the results of his research in some of the leading professional journals such as the Journal of Political Economy and the Journal of Monetary Economics. He is also the author of the undergraduate textbook Macroeconomía: Primeros Conceptos (Macroeconomics: Primary Concepts).