The day after Draghi: Contrasting views from Spain and Germany

The day after the monthly meeting of the ECB's Governing Council and Mario Draghi's subsequent press conference - during which he said that the ECB is willing to intervene on the debt markets again but will hold fire for the moment - we've summed up a few media reactions from Spain and Geremany, opposite sides of the debate on what the ECB's role in the crisis should be. The discrepancy between what the Spanish and German press have made of Draghi's words is fascinating.

An article in El País with the headline, “Draghi pushes Spain towards another bailout” argues that:

"With a single shot, Draghi has shifted all the pressure onto [eurozone] countries verging on intervention. That is, onto Spain. Therefore, Mariano Rajoy’s government finds itself in the thorny condition of someone who has to choose between requesting a bailout – the second, after the one for [Spanish] banks less than two months ago – or burn in the markets."

A similar headline in Spain’s main business daily Expansión reads, "Europe pushes Spain towards a soft bailout”. Interestingly, the paper notes,

"Make no mistake. Neither is Draghi the first high-ranking European official to show Spain the way to the [eurozone] bailout funds, nor did the [Spanish] government realise yesterday that this is what it is being asked to do."

In fact, the article goes on, other top European politicians, from EU Competition Commissioner Joaquín Almunia and Eurogroup Chairman Jean-Claude Juncker, made similar remarks over the past few weeks.

An opinion piece in another Spanish business daily, El Economista, carries the headline, “ECB to Spain: Seek a bailout”. The article says,

“The ECB is now an inoperative institution, the guardian of an ancient orthodoxy. At the moment, the ECB doesn’t want to be the solution…but is part of the problem…Spain will predictably see itself obliged to ask for a bailout. Sooner or later, the fearsome Troika (ECB, IMF and European Commission) will take the helm of our economy and our [public] accounts.”

Bernardo de Miguel, Brussels correspondent for Spanish business daily Cinco Días, writes on his blog that Draghi has made Italy and Spain a Godfather-style “offer they can’t refuse”, adding,

"Madrid and Rome have few options at their disposal, apart from Draghi’s offer, if they want to avoid a full bailout."

Meanwhile, over in Germany, the media have focused more heavily on the implications for German taxpayers and the fraught relations between Draghi and Bundesbank President Jens Weidmann.

Mass circulation Bild, referring to the lack of concrete details announced yesterday, carries the headline, “Could…Would…Should…What does Draghi’s euro wishy-washy mean for our money?” Still, the good news for Draghi is that as long as the ECB’s ‘monetary floodgates’ remain closed, Bild have said he can keep his Pickelhaube.

Writing in Die Welt, Sebastian Jost is less complimentary towards Draghi, accusing him of “taunting” the Bundesbank. Jost argues that:

"ECB Chief Mario Draghi obviously feels comfortable in his role of the euro-saviour. However, not yet able to offer money, he had to make do with strong words and hidden side-swipes."

An article on Handelsblatt’s frontpage asks, “How long can [Bundesbank President Jens] Weidmann hold out in isolation?”, arguing that:

“At the ECB headquarters in Frankfurt, the warnings from Germany are hardly being heard, and they clearly have no influence on decision-making.”

However, Draghi could console himself by reading FT Deutschland’s leader, entitled “Draghi’s wise plan”, which interestingly argues that:

"It would have been good not to interfere with the psychological impact of Draghi's announcement. But once again opposition came from Germany, from the head of the Bundesbank, Jens Weidmann, apparently the only one who voted against Draghi's plan in the Governing Council… It is indeed unwise to break the ranks of the Governing Council in this situation. Weidmann is fanning mistrust where he should be fostering confidence."

Two countries, two completely different roles in the eurozone crisis, two completely different interpretations of the same words. Meanwhile, European stock markets seem to have recovered from yesterday's losses. The interest rate on Spain's ten-year bonds has also decreased, after peaking at over 7.4% this morning.

The situation looks increasingly like another eurozone 'game of chicken'. On the one hand, Draghi yesterday effectively urged eurozone governments (primarily Spain, but also Italy) to show their hands first -  that is, if they think they need help to bring their borrowing costs down they should request EFSF assistance. But at his press conference less than two hours ago, Spanish Prime Minister Mariano Rajoy insisted that he first wants to see what the ECB's announced "non-standard monetary policy measures" actually involve, adding that, as regards the possibility of Madrid asking the eurozone bailout funds to buy Spanish bonds,

"I haven't made any decision. I will do what suits the general interest of Spaniards."

Who will blink first?

Cameron needs credibility on Europe – here are two things he can do immediately to get it

Over on Conservative Home, we argue, 

The Coalition has already done some good work on the EU, the ‘referendum lock’ and the recently launched ‘audit’ of the EU’s influence on the UK to name two. However, the constraints of coalition government have tested the loyalties of Conservative MPs, party members and potential voters who wish to see substantial changes to the UK’s EU membership terms. As a result, Europe could damage the electoral coalition the Conservatives need to muster in order to win an outright victory. This is borne out by recent polling by Lord Ashcroft, which shows that 10% of Conservative voters say they would now vote for UKIP. Of course this may not happen, those who say they will vote UKIP may, when it comes to it, vote to keep the Labour party out. But it would be foolish to advocate complacency, not least as this also links to general trust in politicians. So what can be done?

Some talk of deals with UKIP, some talk of promises of a referendum, some talk of the need for a better defined Conservative vision for a post-2015 Government. These proposals all have specific problems and one major problem: Credibility. Would anyone (including in the first instance UKIP-inclined voters) believe them? Increasingly, the answer is no.

For this group of the electorate and party base, the Conservatives’ credibility on Europe has been hit by a series of forced and unforced errors. Whether perceived or real, the overselling of the Lisbon Treaty ‘cast iron’ guarantee, the revelations that before the election David Cameron’s policies may have been framed with Coalition in mind, the CCHQ prohibition on candidates campaigning on Europe, the opting in to EU crime and policing laws, lecturing the French and Germans on the need to create a Fiscal Union and now Cameron ruling out forever leaving the EU, all chip away at his credibility. In short, Cameron could promise to spend every waking moment committed to achieving new, improved EU membership terms, jump over the EU parapet, look back, and see his troops have opted to stay in the trenches.

Fortunately for David Cameron he has two great opportunities to address these concerns and reassure the electorate he means business, two opportunities where he can either act unilaterally or use a veto. Importantly both these opportunities come before the next election.

Firstly, David Cameron should use a quirk of the Lisbon Treaty to activate the 2014 block opt-out and repatriate around 130 EU crime and policing laws, rather than allowing them to fall under the jurisdiction of the European Court of Justice. He should then avoid squandering this gain by resisting pressure from within the coalition to opt back into them piecemeal. He should instead argue for either a better deal, under which the European Court has no jurisdiction in the UK over criminal law, or stay outside permanently.

Secondly, the UK should demand root and branch reform of EU regional policy, repatriating responsibility for regional funding to the UK and other richer member states. Limiting EU-managed regional funds to poorer countries would mean that 23 out of 27 EU countries pay less into the EU budget than at present, saving the UK £4bn net over seven years (in addition to the £8.7bn it currently gets back through the EU regional funds). This is achievable but Cameron must make it clear that he is prepared to veto the next multi-year EU budget, currently up for negotiation, in order to make this demand more credible.

These two measures would achieve several objectives simultaneously – a reduced EU budget contribution, repatriation of two areas of power from Brussels and limiting the powers of the EU judges – an early opportunity to get some ‘balls in the net’. If Cameron takes these two opportunities, this would be a substantial down payment for future electoral credibility which he will need when he promises a wider renegotiation with the EU. Without it, any future manifesto promise may be skilfully crafted but will not sway many voters’ minds.

 

Super Mario lets the markets (and maybe not just them) down - for now

Italian Prime Minister Mario Monti and his Spanish counterpart Mariano Rajoy would have done well not to choke on their working lunch in Madrid while listening to ECB President Mario Draghi's press conference. In fact, in spite of last week's remarks that the ECB would do "whatever it takes" to save the euro (indeed, without overstepping its mandate), Draghi has today effectively said that the ECB is not going to do anything at all - at least for the moment.

As usual, some 45 minutes ahead of the start of Draghi's press conference, the decision on interest rates was made public and...nothing. They were all left unchanged. But interest rates were the side-show today, after all. Everyone was expecting an announcement on the purchases of eurozone debt on the secondary markets. And this is what Draghi told the press in his opening remarks,

[Eurozone] governments must stand ready to activate the EFSF/ESM in the bond market when exceptional financial market circumstances and risks to financial stability exist – with strict and effective conditionality in line with the established guidelines. The adherence of governments to their commitments and the fulfilment by the EFSF/ESM of their role are necessary conditions. 

 And then,

The [ECB's] Governing Council, within its mandate to maintain price stability over the medium term and in observance of its independence in determining monetary policy, may undertake outright open market operations of a size adequate to reach its objective. In this context, the concerns of private investors about seniority will be addressed. Furthermore, the Governing Council may consider undertaking further non-standard monetary policy measures according to what is required to repair monetary policy transmission. Over the coming weeks, we will design the appropriate modalities for such policy measures.

Which, in practice, means:

• If Spain (or Italy) believe they need help to bring down their borrowing costs, they should tap the eurozone's bailout funds and accept the conditions attached to an EFSF/ESM bond-buying programme - rather than just waiting for the ECB to intervene;

• The ECB may consider buying bonds in coordination with the eurozone's rescue funds, if and when these have already been triggered following a request by a eurozone country. However, as Draghi stressed, the EFSF buying bonds is a "necessary", but not in itself a "sufficient" condition for the ECB to resume its purchases;

• On a more positive note, though, Draghi left open the question whether potential ECB bond purchases would, in future, be limited or unlimited. 

Not quite what Madrid and Rome were hoping for. Interestingly, Draghi also said that the very cautious outcomes of today's meeting - which the ECB President himself described as mere "guidance", and not "decisions" - had failed to obtain unanimity within the ECB's Governing Council, as one member (Bundesbank Chief Jens Weidmann anyone?) had expressed reservations.

Needless to say, the impact of Draghi's words on the markets has been immediate, and huge. Spain's stock markets index, Ibex, went down by almost 5% while the press conference was still under way, while Italy's FTSE Mib index has gone down by 3.4%.

But most importantly, the interest rate on Spain's ten-year bonds is now again worryingly close to 7% - a level widely seen as unsustainable. Monti and Rajoy are due to hold a joint press conference shortly, we will keep you up to date on our Twitter feed @OpenEurope.

Take your pick Mario: Bond-buying or the Pickelhaube!

Mario Draghi's head-wear selection could soon be smaller after Bild threatened to take back the authentic 'Pickelhaube' - the famous 19th Century Prussian military helmet - they bestowed upon him a few months ago to remind him of strict budgetary oversight and economic stability (see photo). Draghi responded by saying he was honoured, and that "Germany served as an example in the crisis".

However, with more investors and politicians looking towards the ECB for salvation, Draghi has indicated that he is prepared to accept a more activist role for the ECB, pledging that, "Within our mandate, the ECB is willing to do whatever it takes to preserve the euro and, believe me, it will be enough".

This has been widely interpreted as an announcement that the ECB will re-start buying government bonds to reduce Spain and Italy's unsustainable borrowing costs. Today's Süddeutsche reported that Draghi is working on a ‘dual strategy’ whereby the eurozone’s new permanent bailout fund, the ESM, would – following an official request from an affected country – buy bonds on the primary market, while the ECB would intervene on the secondary market (similar to the 'concerted action' described by Le Monde last week, which we discussed here).

Way too much for Bild, which today has a headline reading, “No more German money for bankrupt euro states, Herr Draghi!”, adding "or else we will take our Pickelhaube back!"

Will this threat be enough to make Draghi think twice?

Open Europe commemorates Derek Scott

The Open Europe team would like to pay tribute to our Vice-Chairman Derek Scott, who sadly passed away last night after having suffered from cancer for several months. A former advisor to Tony Blair, Derek was a courageous economist and opinion former, whose influence has cut across governments and political parties. Endowed with both a sharp mind and a huge amount of economic common sense, Derek correctly predicted what has now come to pass in Europe – not only more accurately than almost anyone else, but also much earlier.

Years ago, Derek wrote, “The only convergence in euroland is slow growth and deteriorating public finances.” How right he has been proven. Putting principle before political opportunity, he was always ready to speak his mind – whether warning against the flaws of the euro before it became fashionable, or campaigning against the EU’s Lisbon Treaty up and down the country.

Derek was a thoroughly decent person who generously shared his time and insight. He was an inspiration to the Open Europe team and we owe him greatly. Our thoughts are with his wife Gisela and all his friends and family.

Spanish government vs Spanish regions: Episode 98,640 (and counting)

Fresh skirmishes between the Spanish government and some Spanish regions have taken place this afternoon, both ahead and during the meeting of the so-called Fiscal and Financial Policy Council - a forum for the Spanish Treasury Minister Cristóbal Montoro (pictured) to meet his regional counterparts.

The meeting is currently still under way, and the main item on the agenda is the 1.5% of GDP deficit target that Spanish regions will have to meet by the end of the year. As we argued in our recent briefing, the target seems unattainable for at least seven of Spain's 17 Comunidades Autónomas - which are expected to make cuts worth over 2.5% of their GDP.

Despite recently having its deficit targets relaxed by the European Commission, the Spanish government has refused to do the same for its regions. Reports in the Spanish press widely suggested that today's meeting was simply going to confirm that all regions will have to cut their deficits to 1.5% of GDP by the end of the year - even if this involves making additional budget cuts.

The government's decision has not gone down well with certain regions - to put it mildly. Thus, Catalonia this morning decided that it would boycott the meeting altogether. In the words of the Catalan government spokesman, Francesc Homs,

There's no point attending a meeting when everything has already been decided before.

Fair enough. But quite controversial, given that Catalonia is one of the three Spanish regions which have already declared that they will ask the central government for a bailout. Furthermore, Catalonia's minority government, led by nationalist Convergència i Unió party, is only able to govern with external support from Spanish Prime Minister Mariano Rajoy's Partido Popular.

And there is more. Andalusia - Spain's most populous region along with Catalonia - did go to the meeting with Mr Montoro, but abandoned the 'negotiating' table in protest against the government's decision to leave the 2012 deficit target for regions unchanged.

As we have argued here, regions will not make or break Spain financially. However, the latest events are yet another indication of how the clear difficulties in reining in spending at the regional level can undermine the Spanish government's credibility vis-à-vis its eurozone partners and the European Commission.

P.S.: Not really a regional issue, but still related to Madrid's credibility. The Spanish government was due to send its budgetary plans for 2013-14 to Brussels by the end of today, but has failed to do so. Perhaps not the biggest of deals, but the deadline was part of the agreement under which Spain was given an extra year to bring its deficit below 3% of GDP.  

Trust in the EU at an all time low

Plenty for Barroso to contemplate

The European Commission has published the results of its latest Eurobarometer survey. Here are some interesting findings:

• Trust in the EU has, on average, reached an all-time low, now standing at 31% - a 3% decrease since autumn 2011. At the same time, the average level of trust in national governments and parliaments has increased, reaching 28% for both;

• Country-by-country results are equally worrying. Both in Greece and Spain, for instance, the level of trust in the respective governments has decreased since last autumn, and now stands at only 6% (down 2%) in Greece and 13% (down 3%) in Spain. Reflecting that these two countries still associate the EU with positives such as democracy - marking a break from recent authoritarian pasts - people still tend to trust the EU more than their national governments (hardly an achievement given the low levels). However, here's the worrying part if you sit in Brussels. In both countries, trust in the EU has dropped like a stone - and fallen to a much greater extent than trust in national governments. Only 19% of Greeks now trust the EU - down a full 10% in less than a year, while 21% of Spaniards, down 9%, say they "tend to trust" the EU; 

• This suggests that trust in the EU as a counter-balance to unpredictable national politics is starting to diminish. As we've argued repeatedly, a key deciding factor for the future of the euro will be if and when the tipping point occurs: when the Mediterranean countries start to associate the EU and/or the euro with outright pain and erosion of national self-determination.

• The traditional Eurobarometer question about whether a country has benefited or not from EU membership seems to be missing in the latest survey. It's only asked once a year (presumably to avoid too many bruised egos in Brussels) and so we hope that it will re-appear in the autumn 2012 edition.   

• Also interestingly, trust in the German government received a boost, increasing by 7% from the previous Eurobarometer. In the meantime, the number of Germans who "tend to trust" the EU remained unchanged at 30%, while the number of those who "tend not to trust" the EU rose to 61% - 4% higher than in autumn 2011;

• The average share of Europeans who think that the EU is "best able" to tackle the current economic crisis has decreased to 21%, down 23%, as big a share that think national governments are better placed. This question is pretty pointless though as it leaves what "taking effective action" (which is the exact formulation) completely open to interpretation. For example, if eurobonds are implied then you lose the Germans, while if EU-imposed austerity is implied you lose the Greeks.

Eurobarometer polls are always a mixed bag and are clearly, in large parts, driven by the Commission's political and ideological bias. But in so far as the questions are comparable over time, they can show some interesting, albeit worrying, trends.

And the gold medal for diplomacy goes to…

Last week, Republican Presidential candidate Mitt Romney suffered a number of gaffes on his visit to London, including publicly questioning whether London would be able to cope with the pressure of hosting the Olympics, prompting a choice riposte from David Cameron.

Meanwhile, in town to watch French swimming team clean up, French President Francois Hollande also had a few choice words for the host nation. While praising the organisation of the games, Hollande couldn’t resist bringing up the ‘empty seats controversy’ – primarily a problem of the IOC than of LOCOG - arguing that:

“I'm not here to be a killjoy or to give lessons to the British. It's not worthy of France [but] the problem is that there are simply too many corporate seats. It will be up to French organisers to sort out this problem if a bid for a future games is to be successful”. 

Then, in a light-hearted dig at Cameron’s recent vow to roll out the red carpet for French tax exiles, Hollande added that:

"The British have rolled out a red carpet for French athletes to win medals. I thank them very much for that, but the competition is not over." 

However, Hollande wasn’t done yet, teasing his hosts’ comparative lack of success so far on the medals front and their attitudes towards Europe, commenting that:

"We will put the French medals into the Europe pot, so that the British will be happy to be European."

Is Spain tougher than the UK on EU immigration?

The Mail on Sunday yesterday run with a story under the headline, "Cameron urged to follow Spain's new edict: You can't move here without enough money in the bank", suggesting that the British government should follow Spain's recent example and adopt a tougher line on migrants from other member states.

As so often with EU-related immigration stories, this one can be traced back to the 2004 EU Free Movement Directive - which we discussed at length in our briefing on EU asylum and migration policy, available here. The Directive sets out the foundations for one of the EU's key pillars - freedom of movement for people. However, contrary to popular belief, the Directive is not a free for all. It gives member states the right to require citizens from other EU countries who want to live/work in that country for more than three months to prove that they can support themselves, i.e. that they have a job or enough money to avoid becoming a burden on the state.

Now, the Spanish government has recently adopted a new law after having its wrist slapped by the Spanish Court of Auditors. The Court had warned that Spain's liberal transposition of the Free Movement Directive "has implied a serious economic loss to Spain, especially because of the impossibility of guaranteeing the refund of expenditure caused by the provision of health and social services to European citizens." This is what the preamble of  the new law makes clear that Spain wants to address.

The new Spanish law specifies that, when a national of another EU member state decides to register so that he can stay in Spain beyond the initial three months, the person will have to provide evidence that he is financially self-sufficient and has a sickness insurance.

As we understand it, all of these requirements do already form part of the UK's Immigration (European Economic Area) Regulations 2006 and a similar procedure to that proposed in Spain takes place in the UK via the-called 'right to reside' test, which essentially involves verifying that nationals of another EU member state who want to stay in the UK for more than three months are able to support themselves.

The Commission has, counter-productively, taken the UK to Court over the 'right to reside' test, since it considers it discriminatory. However, for most practical purposes, the British test mirrors the Spanish one - although the one envisaged by the new Spanish law appears to cover different types of social benefits than the British one.

This in turn brings us back to the rather opaque distinction EU law makes between 'social assistance' and 'social security' benefits, which is one of the main aspects of the dispute between the European Commission and the Department for Work and Pensions (see our report for some more background).   

So Spain is actually more or less doing what the UK already does. Still, it goes to show why, as we argued in our recent briefing, this issue needs to be managed far better if the benefits of free movement is to be maintained amid public scepticism.

Who said it?

A quick-fire Friday afternoon quiz for our readers. Who said the following in February 2011?

"As a Spaniard, I don't like being told what I have to do from outside."

Well, it was Spain's then opposition leader Mariano Rajoy, who was elected as Spanish Prime Minister a few months later.

Will Rajoy have to eat his words...?

Could this 'concerted action' fly?

Today's edition of French daily Le Monde - which, unlike a large majority of newspapers, is delivered to newsagents at noon - features an interesting story.

According to the paper, the ECB and eurozone governments have intensified talks about the possibility of launching a 'concerted action' to keep Spain's (but also Italy's) borrowing costs at reasonable levels. The recipe is quite simple. The first step would be the eurozone's bailout funds - the temporary EFSF and, as soon as it is up and running, the permanent ESM - buying Spanish/Italian bonds on the so-called primary markets, where national treasuries try to sell newly-issued public debt.

The ECB would follow suit, and would resume its bond purchases on the secondary market - after keeping quiet for almost five months. This would tackle the short-term emergency. The second step, according to Le Monde, could be giving the ESM a banking licence, so that it can have unlimited access to ECB liquidity.

In order for this 'concerted action' to kick off, though, Spain has to make a formal request for an EFSF bond-buying programme. According to the paper, this could be overcome by offering Mariano Rajoy's government 'softer' conditions.

Sorry for once again being the bearers of bad news, but this is not as easy as it sounds. First of all, the Spanish government remains very reluctant to request anything the markets may see as a fully-fledged bailout. Just think of how consistently Rajoy and his ministers have avoided using the word rescate (bailout in Spanish) when referring to the €100bn rescue package for the Spanish banking sector. Secondly, giving Spain 'softer' conditions could potentially open Pandora's box and prompt Greece, Ireland and Portugal to ask for the same treatment.

On top of this, there are also other problems with this 'concerted action', which Le Monde seems to overlook. Should the EFSF start buying bonds, this would not necessarily mean that the German Bundesbank would suddenly change its mind and support massive bond market interventions by the ECB. See, for example, the Bundesbank's reply to Mario Draghi's latest remarks. Unusually late by German standards, but no less categorical in making clear that the bank "hasn't changed its opinion" (i.e. its opposition) to such interventions.

Now, unanimity in the ECB's Governing Council is not needed with regard to bond purchases. But it would be politically very difficult to outvote the Bundesbank over and over again - not to mention that the Dutch and the Finns are likely to be sympathetic to the German concerns. On a more technical note, bond purchases on the primary markets can be addictive, similar to what has happened with ECB liquidity to eurozone banks. In other words, it could be quite difficult for, say, Spain to finance itself in a normal fashion after EFSF/ESM purchases are phased out. As we have stressed before, no-one wants to see a situation where the eurozone faces zombie states similar to the peripheral zombie banks now reliant on ECB liquidity.

All very speculative at the moment (Le Monde does not actually mention any specific sources), but it's clear that things are moving quickly. Keep following us on Twitter @OpenEurope if you want to keep up to speed!   

Bavarians are getting increasingly restless over eurozone bailouts

Debt-pooling goes down less well in Munich

Its not just Spain that has a problem with its regions. Over in Germany, Bavaria is getting increasingly angry over the additional burdens imposed on Germany as a result of the eurozone crisis - both via the existing bailout funds and possible future burdens via eurozone debt pooling. This is because in addition to its strong regional identity, it is the wealthiest of Germany's 16 states; a bigger burden on German taxpayers therefore equals a bigger burden on Bavaria.




The day after Moody’s placed Germany as a whole on negative outlook, it placed Bavaria and five other German states on negative outlook as well. While the German government reacted quite stoically – saying it had “taken note” of the decision – the response from Bavaria to its 'outlook downgrade' was far more robust. The state’s Finance Minister Markus Söder told Süddeutsche that:

"The Bavarian finances are in top condition, we are paying back our debts. I would expect us to win a gold medal.”

The state’s Prime Minister, Horst Seehofer argued that the decision "ought to send a warning signal to the rest of Europe". Both politicians come from the CSU, the Bavarian sister party to Angela Merkel’s CDU, which governs Bavaria with the FDP as its junior coalition partner. In the German debate, the CSU has taken the hardest line on Europe’s so-called ‘debt sinners’; yesterday Söder became their latest senior politician to explicitly call for Greece to leave to eurozone – in contravention of the government’s official position, while in an interview last week the party’s General Secretary Alexander Dobrindt said that:

"With Greece we have reached the end of the road. There must not be any further aid. A country which does not have the will to fulfil the conditions, or is not able to do so, must get a chance outside the euro”. 

However, it is not just Greece that has attracted the ire of the CSU – in the same interview Dobrindt laid into the opposition SPD and Green parties, describing their positions on the eurozone crisis as a “betrayal of German interests”:

“We will defend the bastion that is Bavaria against the onslaught of the left… The [upcoming regional and federal] elections will be hard clashes with the opposition parties over major social issues: the SPD and Greens want German taxpayers’ money in exchange for eurobonds. They represent the interests of the Socialist International and not those of German citizens. They are preparing the ground – together with the French President [Hollande] – for a ‘eurosocialism’. Their egalitarianism comes at the expense of Europe’s top performers [and will] threaten the prosperity of Europe.”

Dobrindt’s intervention is noteworthy because it is the first time that a senior mainstream politician has explicitly called for the eurozone crisis - and longer term questions such as eurobonds - to be made into defining issues in next year's elections. Until now, despite accusing Merkel's government of poor political management, the SPD and Greens have broadly taken the same structural approach to the crisis - i.e. bailouts and savings/reform packages, albeit with additional emphasis on 'pro-growth' measures. It will be interesting to see if and to what extent Merkel and the CDU will heed Dobrint’s call to adopt a tougher tone.

Bavaria’s position in Germany can be seen as a microcosm of the eurozone as a whole – together with neighbouring Baden-Württemberg they largely subsidise public expenditure in the Western Länder and the former DDR – the latter via a statutory ‘Solidarity payment’ on top of general taxation. Given that many Bavarians are unhappy with this arrangement - the state government recently launched a legal challenge - their resistance to funding another ‘solidarity payment’ – this time for the Mediterranean bloc – should not be underestimated. Earlier this month, Seehofer warned that:

“Eventually, a point will be reached when the Bavarian government and the CSU can no longer say 'yes' any more [and] the coalition has no majority without the CSU's seats.” 

While this is unlikely to happen any time soon, the CSU’s resistance will severely restrict Merkel’s ability to place further eurozone rescue related burden on the German taxpayers in the remainder of the current parliamentary session and beyond.

As Germany as a whole faces the question of how it will respond to the crisis in the longer term – with a range of options running from a break-up to more political and economic integration – expect Bavaria to be at the forefront of the resistance to the latter option.

Struggling to keep up to speed with the latest on Spain? Just read this...

There have been a couple more interesting developments about Spain today - the first one, at least in chronological order, being the publication of our new briefing. Speaking at the Global Investment Conference in London, ECB President Mario Draghi said,

To the extent that the size of these sovereign premia [i.e. the high borrowing costs of Spain, but also Italy] hamper the functioning of the monetary policy transmission channel, they come within our mandate...Within our mandate, the ECB is ready to do whatever it takes to preserve the euro. Believe me, it will be enough.

Draghi's words were seen as a hint that the ECB could intervene in the secondary bond markets after a 19-week stop. This sent Spain's borrowing costs significantly down, with the interest rate on ten-year bonos falling slightly below 7% - which remains unsustainable in the long term, but is better than the mind-boggling 7.7% touched yesterday.

Quite extraordinary how the ECB President saying that the bank will continue to act within its mandate can bring about such 'optimism'. We would usually expect a denial/counter-comment from Germany or another more conservative eurozone member, but then maybe Draghi's remarks were well-timed to take advantage of the fact that Angela Merkel is on holiday...

On the Spanish regions' front, the government of Castilla-La Mancha - headed by Dolores de Cospedal, Secretary General of Rajoy's Partido Popular - refused to rule out seeking a bailout from the Spanish government, although it stressed that it doesn't need one "urgently". Meanwhile, Catalonia's Economy Minister, Andreu Mas-Colell has made clear that his region won't accept any "political" conditions the central government may try to attach to the loan Catalonia has decided to request.

His counterpart from Comunidad Valenciana, Máximo Buch, predicted that the Spanish government could consider boosting its €18 billion Autonomic Liquidity Fund (FLA, the rescue fund for Spanish regions) later this year, once all the Spanish regions in need of a bailout have shown their hand. Interestingly, Buch also suggested that several "shirking" regions will eventually follow Comunidad Valenciana's example and request a loan, sooner or later.

On a slightly separate note, Bankia's former chief Rodrigo Rato - who also served as Spanish Economy Minister and IMF Managing Director - has been heard by Spanish MPs today, and said a couple of interesting things. First off, he claimed that the Bank of Spain "ordered" him to go ahead with the merger of Caja Madrid and Bancaja, despite it being quite clear that the two cajas held a worrying combined total of doubtful real estate assets. For those unfamiliar with the story, Caja Madrid and Bancaja are two of the seven Spanish savings banks that form part of Bankia, which is effectively a conglomerate. Together, the two form almost 90% of Bankia. 

Rato (in the picture) also told MPs that, in May, he submitted a restructuring plan for Bankia to the Spanish Economy Ministry, but was ignored. Rato's plan involved a loan of 'only' €6 billion from the Spanish government - i.e. four times cheaper than the almost €24 billion Bankia is now in line to receive.
  
Although this is only Rato's version of how things went, this is pretty strong stuff - considering that Bankia is essentially where the whole story of the Spanish bank bailout started...   

As usual, you can follow the latest development in the eurozone crisis on our Twitter feed, @OpenEurope

Regional debt, national problem: Is Spain heading for a full bailout?

As Spain seems to have wiped anyone else away from eurozone crisis-related headlines, we have published a new briefing looking at how the Spanish crisis could evolve in the near future – focusing our attention on the role of the regions and potential bailout scenarios.

Forgive us a bit of self-praise, but we have repeatedly stressed the risks involved in Madrid being unable to rein in spending at the regional level (see here and here, for instance). In our new briefing, we argue that, at the end of the day, the regions alone will not make or break Spain financially (more likely, it will be the banking sector, a risk which we also highlighted at length). In fact, if they continue to rely on the central government for funding, this could increase Spain's financing needs for this year by an extra €20bn - not pocket change, but still around only 2% of the country's GDP.

However, further damages to the credibility of Mariano Rajoy's government vis-à-vis its eurozone partners would be inevitable. Furthermore, we believe regional problems combined with banking sector issues and other pressures could ultimately push Spain into a fully-fledged bailout.

But would there be enough money in the pot if this happens? 

Probably not. In fact, we estimate that taking Spain off the sovereign debt markets for three years in a Greece-style bailout would cost between €450 billion and €650 billion. This is both economically and politically impossible at the moment, given that the lending power of the eurozone's two bailout funds, the EFSF and the ESM, will only total €345 billion this year, and will rise to €500 billion in mid-2014.

Therefore, we suggest that the most likely scenario is a combination of measures, involving a precautionary loan of around €155 billion combined with a new bout of ECB liquidity. However, even that could, at best, only buy Spain six months to a year.

They may have the cup...

It's election campaign season in the Netherlands, with Dutch voters due to choose their next government on 12 September. Caretaker Prime Minister Mark Rutte's VVD party has come up with a rather original way of planting the eurozone crisis into domestic political debate.

On 29 June, the party published the following campaign poster on its Facebook page:

The two players on the right - Andrea Pirlo of Italy and Xavi Hernández of Spain - need no introduction. However, the slogan on the left is quite interesting, as it says,

They may have the cup, not our creditworthiness.

The picture also had a short description above, saying,

Italy or Spain will become European football champions [as we mentioned, the post is from 29 June, two days before the Euro 2012 final]. Now they also need to become champions in cutting their budgets, because if we get things our way, there will be no arrangement through which they can benefit from our financial discipline while not putting their own things in order. Please like if you agree!

To date, the VVD post has 864 'Likes'.

As the elections get closer, tough rhetoric on the eurozone crisis, such as this, is likely to become a feature as Dutch politicians bid to 'steal' votes from Geert Wilders' far-right, notoriously anti-euro (and anti-EU), PVV.

Today, Dutch magazine Elsevier also reported that, at last week’s meeting of the ‘Future of Europe’ group, organised by German Foreign Minister Guido Westerwelle, Dutch Foreign Minister Uri Rosenthal warned that it was not the time to discuss any further transfer of national powers to the EU, especially in areas such as pensions, labour market and social security.

In light of what we have seen, for instance, in Finland ahead of the latest presidential elections, the picture above is another example of how further fiscal integration and eurozone bailouts are now at the forefront of election campaigns in the Triple-A countries.

Cameron should veto the EU budget unless he gets a better deal

On the Telegraph blog, we argue:

At a meeting of Europe ministers today, the UK government is set to be outvoted on the size of the EU’s 2013 budget. Having pushed for a freeze without a last-minute deal, Britain will be forced to accept a 2.8 per cent increase. This is a compromise position that gives scant consolation to UK taxpayers who will have to fork out an additional £350 million for no good reason whatsoever. Unbelievably, the Commission and some member states were pushing for a 6.8 per cent increase.

Decisions on the annual budget are decided by so-called qualified majority voting system (QMV) with the European Parliament also having to give its assent. This is the issue on which the UK is set to get stuffed this week. However, each member state has a veto over the EU’s long-term budget – known in Brussels speak as a Multiannual Framework (MFF) – which usually covers a seven-year period.  This underlines how incredibly important it is for the UK government to utilise its veto to get the EU’s long-term budget right.
Unfortunately, in talks over the EU's long-term budget (set to run between 2014 and 2020) – also up for negotiation at the moment – the UK is merely pushing for a freeze to overall spending. While this strategy has some merits, it won’t achieve anything above and beyond what could be achieved by simply vetoing the MFF. This is because under EU rules, if a new deal over the MFF can’t be reached, the previous year’s budget is carried over, adjusted to inflation – exactly the real terms freeze that the government is currently pushing for. This is not a shrewd negotiating strategy.

So what should the UK government do instead?

There is no shortage of EU spending areas to reform. For example, it’s madness that, as Europe grapples with a solvency, competitiveness and banking crisis – all at once – around one-third of the EU budget still goes towards subsidising landowners, irrespective of whether they’re engaged in any meaningful economic activity.

But the UK government would secure a hugely disproportionate benefit by one simple move: repatriating the EU’s so-called structural funds back to Britain and other wealthy states. The structural funds are meant to help poorer regions catch up with richer ones, but in reality a large portion of the money is merely being recycled between some of Europe’s richer regions and countries, and spent on projects with little, no or negative comparable impact. Of the 37 regions under the EU’s classification system, 35 pay more in to the system than what they get back. This means that many disadvantaged UK regions – such as the West Midlands and Northern Ireland – end up as net contributors.

As argued for by the previous Labour government, and as recommended by the Commons Local Government Select Committee (alas, only from 2020), the UK should push for the repatriation of these funds for member states with a GDP of 90 per cent or above the EU average. This would achieve the following:
UK taxpayers could save almost £13 billion gross, and £4 billion net over seven years and the overall size of the EU budget is reduced by 15 per cent

-23 out of 27 EU member states would pay less into the EU budget, with France gaining the most (around €12 billion over seven years)
-All post-communist member states that joined in 2004 and 2007 would do better from the funds
-By streamlining and slimming down the funds, they could become far better tailored around regions’ individual needs
-The government, and Mr Cameron in particular, would get instant credibility on Europe

Those countries that would lose out – Spain, Italy and Greece –need a different kind of financial support to that currently is offered by the funds anyway. For example, 30 per cent of the funds in Spain still go towards roads and infrastructure – the opposite of what the country with its bust construction sector needs. This would be the best opportunity of putting this right.

In terms of a simple and easy to communicate policy proposal, this is an open goal. In terms of negotiation dynamics, despite it only ever being able to deliver a freeze, as opposed to an end to UK payments, Britain’s veto is still powerful. Not having a new MFF in place would be extremely messy and most member states, including the new ones that want a new deal to benefit from phased-in farm subsidies, have huge incentives to strike a new bargain. The UK will almost certainly get something substantial in return if it sticks to its guns.
Mr Cameron would waste a perfectly good EU veto – and a chance for a massive credibility boost on Europe – by letting this one slide.

Eurozone crisis meets German pensions

It was just a matter of time: The front page of today's Bild warns about the effect the crisis will have on millions of Germans’ pensions.

Under the headline “Euro crisis shrinks pensions”, Bild reports that the occupational pensions of 17 million Germans are threatened by a combination of the low interest rates on the government bonds of the remaining creditworthy nations – which pension funds heavily invest in – and by the low rate of interest (0.75%) set by the ECB in an attempt to stimulate the economy, which it is feared will lead to inflation in the longer term.

In turn, the paper claims, this will erode the value of pension payments, citing calculations by Professor Stefan Homburg from the University of Hannover which show that given an inflation rate of 5%, a €1,000 pension payment would only be worth €614 in ten years’ time (although at OE we think that, given current policies, such an inflation rate is someway off).

Although there is clearly an element of scaremongering here, this is the kind of stuff that brings the crisis to life for people, and angry retirees are not a constituency that any government is advised to take lightly. It also highlights the ever-present tensions between different interest rate needs of the 17 euro economies. Sooner or later, there will be significant pressure from within Germany on the ECB to raise rates, possibly leading to a political tug of war between member states' representatives - this seems inevitable at some point if Germany continues to outgrow other parts of the eurozone so significantly. It also shows that perversely, the record low interest rates on German sovereign debt are not wholly a positive factor for German citizens.

At the end of the day, the outcome of this crisis may be decided in large parts by its impact – be it tangible or perceived – felt by German citizens in their everyday lives.

How long can Spain fund itself at these levels?

Once again the crisis came roaring back this weekend, with a terrible Spanish debt auction last week and rumours that a raft of Spanish regions will need aid from the central government (as we predicted here) sending Spanish 10 year borrowing costs skyrocketing to a record 7.55%.

The questions now turn to how long the central government can fund itself and its regions at these levels.

By all accounts Spain has done well to ‘pre-fund’ a large amount of its debt this year (meaning its already borrowed most of the money it needs to), while the average interest rate on its debt remains fairly low (around 4%) while the average maturity of its debt is around six and a half years – in all not a bad debt profile considering everything. However, around 10% is soon to be added to the debt to GDP ratio while the mounting costs of bailing out the Spanish regions will only exacerbate this. All the while growth continues to stall – the Bank of Spain announced this morning that the Spanish economy contracted by 0.4% in the second quarter of this year, to add to the 0.3% decrease in the first quarter.

Those of you that read our recent report on the Spanish bank bailout will know that we pre-emptively tackled this issue in detail, but just in case here’s a refresher from the report:

 …looking at the Spanish state’s funding needs over the next few years, even with the recapitalisation of the banks taken care of, it faces a huge level of debt refinancing. Up to mid-2015 Spain faces funding needs of €547.5bn, over half its GDP and a large majority of its debt.

Spanish debt maturing
The Spanish central government will need to rollover €209bn in bonds and €75bn in bills, equal to almost 30% of GDP and close to half of its official debt. This will become increasingly difficult if Spanish borrowing costs remain at elevated levels.

Spanish deficit 
From mid-2012 to mid-2015 Spain will have to finance a deficit worth €179bn – that is assuming it manages to stick to the IMF projections and its deficit cutting plans.

Unpaid bills 
Spain also faces large stocks of unpaid bills at all levels of government, totalling around €105bn. These are due to be wound down over the next year or two despite having been at elevated levels for some time. Ultimately these funds are mostly owed to domestic creditors meaning withholding the money for longer will be counterproductive for the Spanish economy. (In light of this weekend's  rumours its interesting to note that the recent boom in arrears came nearly exclusively from regional governments).

…the amount to be rolled over in the next year or two is still particularly large…This will further increase the pressure on the banks to load up on Spanish sovereign debt, with potentially huge consequences if this loop ever breaks down. If the problems in the banking sector are not resolved their ability to continue funding the state will at some point come under huge pressure, if this falls apart Spain may find itself without any willing creditors.

What Cameron should have told the Telegraph

David Cameron is quoted in today’s Telegraph saying that he wants to negotiate a “new settlement” with the EU with powers returned to Britain, but that he would never campaign for an “out” vote in a referendum. “If your vision of Britain was that we should just withdraw and become a sort of greater Switzerland, I think that would be a complete denial of our national interests”, he said.

The ‘never’ part doesn’t seem to be a direct quote so it’s not entirely clear how to interpret it. However, several commentators have already laid in to Cameron over ‘revealing his negotiation hand’. In order to make demands for renegotiation credible, so the argument goes, Cameron must be willing to keep the “out” option open, in order to have a fall-back plan should negotiations fail. Otherwise, other member states have nothing to fear and can just tell the UK to go and stuff itself. A couple of things:

• As the Telegraph’s James Kirkup has pointed out, when he said he wants to stay in the EU, Cameron merely restated what was in the 2010 Tory manifesto, so it’s not as if he’s changed position 
• There’s virtually no clean ‘out’ option to fall back on. Whether EEA, bilateral FTA or Turkey+, all alternative models also require renegotiation with, and approval by, the other 26 member states, meaning that the ‘what happens if they say no’ question still applies also under an ‘out’ scenario. The only way Cameron can get around that is by explicitly stating that he’s willing to fall back on WTO rules – which would not require anything – but which would instantly turn the entire UK business community, amongst others, against him. 

Having said that though, those who criticise Cameron have a point First, demands for Britain to leave are not a negotiation ploy but are real, and will intensify absent new EU membership terms. The UK government cannot be seen as defending EU membership at ‘any cost’. Secondly, as we’ve said before, if the EU becomes a political extension of the Eurozone, i.e. if directly or indirectly greater Eurozone integration spills over to Britain, for example via a banking union, Britain simply cannot remain inside – politically, democratically or economically. Finally, as we argue in our recent report on EU-UK trade, there are scenarios under which the exit door could suddenly look a lot more attractive, including if single market liberalisation stalls and if the Eurozone grows more protectionist internally and externally, preventing UK business from taking advantage of growth opportunities around the world.

Therefore, the smartest thing for Cameron to say would be: As we set out in the Tory manifesto, we remain committed to EU membership and will not seek an “Out” vote. However, we must also acknowledge that  the UK public is understandably growing more restless by the day. Absent new EU membership terms for Britain, while I personally would be against it, there may come a day, when it will no longer be possible to resist pressure for the UK leaving the EU, which would create a hugely unpredictable situation that would be in Berlin’s and Brussels’ interest to avoid.

David Cameron should frame the renegotiation of the UK’s membership terms as a bid to save the UK’s EU membership – that is a far more powerful negotiating tool than any short term threat for him to campaign to leave because, it could potentially gain support from some unexpected quarters, it is true and does not rely on the promise of a politician.

Fresh details on the Spanish bank bailout... again from abroad

We assume many Spaniards are growing more and more frustrated with the fact that they have to dig into the websites of foreign governments and parliaments to find out details of the bank bailout their country is set to receive. After the 'confidential' EFSF proposed timeline we took from the website of the Dutch finance ministry and analysed on our blog, new information emerged from the dossier the German finance ministry prepared from German MPs ahead of today's vote on the Spanish bank bailout in the Bundestag (available here).

The 139-page dossier includes a "Master Financial Assistance Facility Agreement" - never seen before - between Spain, the Spanish national Orderly Bank Restructuring Fund (FROB), the Bank of Spain and the EFSF. The draft agreement confirms that, as expected, once the eurozone's permanent bailout fund, the ESM, takes over, the loans Spain receives will not become senior to Spanish debt held by private investors.

However, the most interesting part (see page 78 of the dossier) concerns the fact that, in principle, Spain could request that part of the €100 billion rescue package be used for purposes other than bank recapitalisation - including direct loans to the Spanish government and purchases of Spanish debt on both the primary and the secondary markets.

In other words, if it turns out that Spain does not need the entire amount to sort out its troubled banking sector - which the government has suggested will be the case (although we don't agree, see here) - it could, for instance, ask its eurozone partners to use the cash left to buy Spanish bonds and try to keep its borrowing costs down.

This would imply a revision of the Memorandum of Understanding (MoU), which would almost certainly include tougher conditions - probably directly relating to government spending and reforms as well. All very speculative at the moment, but it's still interesting that the agreement opens for Spain seeking something closer to a fully-fledged bailout deal.

A European Commission spokesman has just told reporters in Brussels,

"The up to €100 billion, which the eurozone has undertaken to provide to Spanish banks is to do just that, it is only for that purpose and not for any other."

This seems to be only a half-truth, though. In fact, the draft agreement does indeed specify that, for the moment, the entire amount is being provided in the form of a "Bank Recapitalisation Facility". However, the document also establishes that Spain can make an official request to move part of the money to another facility, provided that the combined total does not exceed €100 billion. 

In any case, the bailout agreement will be wrapped up by eurozone finance ministers in their conference call tomorrow. Meanwhile, the day has not started well for Spain. In this morning's debt auction, almost €3 billion of medium and long-term debt was sold, but with higher interest rates and significantly lower demand than in the previous auction. The interest rate on Spain’s ten-year bonds reached above 7% again – a level widely seen as unsustainable.  

All this happened while Spanish Treasury Minister Cristóbal Montoro (in the picture) was telling MPs that “There is no money in the public coffers to pay for services.” As usual, you can follow the latest developments of the eurozone crisis via our Twitter feed @OpenEurope.

IMF weighs in on the debate surrounding the ECB

There’s been another interesting report put out by the IMF today in the form of its ‘Article IV consultation on the euro area’ (essentially an economic assessment of the eurozone).

The IMF was particularly vocal on the role of the ECB stating:

“Because inflation is low and falling, the ECB has room for lowering rates, and deploying additional unconventional measures would relieve severe stress in some markets.” 

They’re not wrong there, any conventional inflationary pressure for the eurozone as a whole is definitely abating. But the policy implications of such a move are important. The IMF itself puts forward some alternatives, including:

Further liquidity provision. This could encompass additional multi-year LTRO facilities, coupled with adjusted collateral requirements, if needed—including a broadened collateral base and/or a lowering of haircuts—to address localized shortages. The associated credit risk to the ECB would be manageable in view of its strong balance sheet and high levels of capital provisioning. Nevertheless, one of the disadvantages of the LTRO facility is that it tends to strengthen sovereign-bank links (see Box 5).

Quantitative easing (QE). The ECB could achieve further monetary easing through a transparent QE program encompassing sizable sovereign bond purchases, possibly preannounced over a given period of time. Buying a representative portfolio of long-term government bonds—e.g., defined equitably across the euro area by GDP weights—would also provide a measure of added stability to stressed sovereign markets. However, QE would likely also contribute to lower yields in already “low yield” countries, including Germany. 

As you’ll notice both recommendations come with clear caveats – strengthening the sovereign banking loop with the LTRO and the fact that QE would need to be spread across the entire eurozone. We’ve discussed both at length on this blog and in our research but a refresher never hurts.

The LTRO has certainly driven the sovereign banking loop much closer, engraining this connection at the heart of struggling economies (far from ideal) while encouraging the nationalisation of financial markets once more. All this prompted the well-known and incredibly complex banking union discussion. The IMF also notes a further problem with more LTROs, asset encumbrance. A complex issue but essentially banks are running short of quality assets to post as collateral to borrow from the ECB (see graphic below). So even if further LTROs were offered they may not be able to take advantage of them. If the ECB went down this route and faced this problem it would have little choice but to widen its collateral rules or reduce the valuation ‘haircuts’ (which decide how much banks can borrow against certain collateral) thereby taking even greater amounts of risk onto its balance sheet.

 
In terms of QE we’d point you to our report from December and the table below. Ultimately, it would have to be a huge spate of QE to provide enough of a boost to the countries in trouble, but that would also create a huge amount of money flowing into countries such as Germany (which is already concerned about an asset and property bubble).

We’ve argued before that a more significant role in the crisis for the IMF wouldn't be the worst thing in the world. Generally it has provided a more realistic assessment of the situation. Unfortunately, in this case, the problems outlined above are only the technical ones relating to a greater role for the ECB, the political obstacles remain almost insurmountable in the short term. As with the UK government, we’d recommend the IMF engage but avoid spending too much time of policies which are politically nearly impossible and technically challenging.

Why Sicily shows Italy still has a lot to do...

As if Mario Monti didn't already have more than enough to work on this summer, another urgent item has taken the top spot on his agenda. The regional administration in Sicily (whose building, the beautiful Palazzo Normanni in Palermo, is pictured) is at serious risk of default. Its debt stood at a record €5.3 billion at the end of last year. The governor, Raffaele Lombardo, had already suggested that he would step down at the end of July. However, Monti felt the need to send him a letter yesterday, urging him to confirm his intention to quit. Given the shambolic state of affairs in Sicily we will overlook the fact that this essentially involves a technocrat calling on an elected politician to quit - far from ideal, but it's clear that Lombardo has to move on.

According to the Italian press, Monti and Lombardo are planning to meet next Tuesday, with the Italian government ready to send an administrator to take control of the region from the moment the Sicilian governor resigns. This statement made by Sicily's regional councillor for infrastructures, Andrea Vecchio, gives an idea of the gravity of the situation. He said yesterday,

Is Sicily on the verge of bankruptcy? I think so. I'm afraid we will soon no longer be able to pay the employees' salaries.

Politically, the situation is obviously serious, but not particularly controversial. Regional autonomy in Italy is not the same thing as, for instance, in Spain. The right for the central government to step in and grab the helm if regional administrations go off course is enshrined in the Italian constitution. However, the unbelievable list of waste and mismanagement examples which led Sicily so close to default (some of which featured in our 50 examples of EU waste, 2010 edition) offers a clear explanation of why Italy still has a lot to do to find its way out of the woods of the eurozone crisis.

Courtesy of Italian journalist Sergio Rizzo - co-author with Gian Antonio Stella of the bestseller 'La casta' ('The caste' in Italian) - here are some interesting and concerning examples:

- At the end of 2011, the Presidency of the Sicilian region employed a total of 1,385 people - i.e. more than the UK's Cabinet Office, which had 1,337 employees;

- According to the Italian Court of Auditors, the entire regional administration in Sicily employs 17,995 people. Last year, while Berlusconi's government was piling up austerity packages, 4,857 of these employees, previously on a temporary contract, were put on a permanent one;

- In 2011, these employees cost the region over €760 million just for their salaries and allowances - 45.7% more than in 2001. If social security charges are taken into account, the cost rises to almost €1.1 billion;

- Sicily's regional administration employs the same number of directors as 15 other Italian regions put together. This means that in the island's administration there is on average a director for every nine employees (the average in the Presidency office is one for every five or six).

Italian daily La Stampa offers a couple more colourful (but equally worrying) examples:

- The allowances of the 90 members of Sicily's regional assembly include €5,000 for 'funerary expenses';

- Back in 1984, Sicily decided to buy two killer whales (yes, you read it right) from Iceland, at a cost to the taxpayer of over 200 million of Italian lire - i.e. over €100,000. They were supposed to be admired by tourists visiting a water park in Sciacca, in the province of Agrigento - on the south-western coast of the island. A real shame that the park was never finished and the killer whales had to spend the rest of their lives in a swimming pool, at a cost of 6 million of Italian lire - i.e. over €3,000 - a month.

It looks like Super Mario will definitely have to live up to his moniker on this one... 

Surprisingly little collateral damage as Spain and Finland reach a deal

Spain and Finland last night reached a deal on the provision of collateral for the Finnish share of the Spanish rescue package. This is the second collateral deal which Finland has struck, following the one on the second Greek bailout, although thankfully this one seems slightly simpler and much more transparent.

The full presentation on the deal is here, unfortunately in Finnish, (an English summary can be found here), but we’ll outline the key points for you and also add some of our reactions in bold:

• Finland will receive €770m from Spain’s deposit guarantee fund which will be invested in Triple-A eurozone government debt and held in an escrow account. The idea here is that the deposit guarantee fund isn’t part of the state therefore no issues will arise in terms of subordinating existing debt holders (see here for a fuller discussion on this issue of ‘negative pledge clauses’). A technicality but it should hold and at least it allows more transparency since the deposit fund is still a somewhat public institution (rather than private commercial one as in the case of the Greek banks which provided the collateral for the previous deal). 
• The amount covers only 40% of Finland’s contribution to the Spanish bailout, based on the largest expected losses under a default. Logically this may seem to be enough given the size of the Spanish economy and historical recovery values from defaults. Unfortunately, if it gets to the stage of a Spanish default (a very unlikely scenario), the implications for the eurozone are likely to be huge (possibly a full break up) meaning 40% collateral would be of little value. Although in that scenario Finland would have a lot more problems to worry about that just recovering the bailout loans. 
• The collateral will stay in place even if the loans are transferred from the EFSF to ESM. This is a result of the transferred loans not having seniority, if they did we’re sure the collateral deal would be unwound once the ESM was in control. 
• Finland has also agreed to forgo any potential profits form the loans and pay in its capital to the ESM, the eurozone’s permanent bailout fund, in one instalment rather than five. The forgoing of profits is an interesting precedent, although given the incredibly low premium charged on the Spanish loans (as we discussed here) it is unlikely much will be made in this instance. The paying in of capital will force Finland to stump up cash quicker than expected but will amount to only €1.44bn, which should not be a problem given the strong state of the Finnish economy. 
• The Finnish parliament will debate the deal on Thursday and likely vote on it on Friday. Any euro debate in the Finnish parliament is always heated but this one seems likely to pass without incident. It also means the deal will be ready for the eurozone finance ministers’ discussion on Friday afternoon where the Spanish deal is expected to be finalised. 

All in all, it’s fairly similar to the Greek deal and despite being more public still fairly limited on precise details. One further point to note is the speed and relative ease at which the deal has progressed – particularly in that objections from other member states have been muted. This is to be expected, the rubicon had already been crossed with the Greek deal, but we also think the points which Finland gave in on (profits and speeding up ESM payments) may have played a role - both points which countries with higher debt levels may have been keen to avoid.