Note how ‘currency users’ are limited to relatively low levels of debt by markets:

Valencia’s total outstanding debt at the end of 2011 was EUR20.76 billion, equal to around 20% of its GDP.

Spain ran up it’s current national debt as a currency issuer when it not only didn’t matter financially with regards to funding and solvency, but it was, for all practical purposes, a requirement to accommodate non govt savings desires at desired levels of output and employment.

Spain, and the rest of the former currency issuers, then waltzed into the euro zone arrangements as currency users who all agreed to keep the same debt levels they had accumulated as currency issuers, rendering the euro arrangements ‘an accident waiting to happen’ from the get go.

Spain’s Valencia Struggles To Repay Debt

By Jonathan House and Art Patnaude

May 4 (Dow Jones) — Spain’s financially troubled Valencia region had to pay a punitive interest rate to roll over a short-term debt Friday, raising new concerns about its solvency and prompting the regional government to offer assurances it can avoid a default.

“We have covered our refinancing needs through June and we are planning on meeting our commitments,” a Valencia spokesman said.

Valencia had to offer institutional investors a 7% interest rate to roll over a EUR500 million debt for six months on Friday, a new sign of a deepening financial crisis for the regions that control over one third of spending in highly decentralized Spain. That’s more than four times what the Spain’s central government offered at its last auction of six-month treasury bills.

With a long history of overspending, Spain’s regions have moved to the center of the country’s fiscal crisis. As Prime Minister Mariano Rajoy tries to close yawning budget gaps at all levels of government and return the ailing local economy to growth, his government is scrambling to make sure the regions meet their financial obligations while reining in expenditures.

Spain had a general government budget deficit equal to 8.5% of gross domestic product in 2011, far in excess of the 6%-of-GDP target it had committed to with the European Union and international investors. Much of the overrun was the fault of the regions.

In recent months, the fiscally frail regions are facing increasing difficulty in financing themselves. International investors are steering clear. “There’s still a great deal of reluctance from institutional investors to get involved in Spain. The uncertainties are a bit too big,” said Elisabeth Afseth, fixed-income analyst at Investec Bank in London.

Valencia, on Spain’s Mediterranean coast, is one of the most troubled of its 17 regions. With its hundreds of kilometers of beachfront properties, it is ground zero for the collapse of the Spain’s housing industry, which has punched a large hole in national tax revenue and sent the economy into a long slump. The housing bust, coupled with years of high spending, has made Valencia one of the most indebted regions.

Valencia’s total outstanding debt at the end of 2011 was EUR20.76 billion, equal to around 20% of its GDP.

Late last year, Moody’s Investor Service downgraded Valencia’s credit to junk status and the central government had to advance Valencia some of its regular financing to prevent it from defaulting on a EUR123 million debt to Deutsche Bank AG (DB). In Spain, most tax revenue is collected by the central government.

Since then, Rajoy’s government, which came to power in December, has strengthened financial support for the regions and said it won’t let any default on their obligations. It set up an EUR10 billion credit facility they can draw on to refinance their debts and is offering EUR35 billion worth of loans to help them pay off debts to suppliers.

The Valencia spokesman said his region has received EUR2.69 billion from the credit facility that will allow it to meet all its debt obligations in the first half of the year. In addition, Valencia and other regions are pushing hard to get Madrid agree to guarantee their debts, which should help lower borrowing costs, he added.

Valencia has to refinance EUR4.5 billion worth of debt this year.

9 Responses

  1. “Spain ran up its …debt as a currency issuer when ..….it was a requirement to accommodate non govt savings desires at desired levels of output and employment”

    I thought desired levels of output and employment were regulated with taxes and that borrowing was just a reserve drain to maintain target interest rates.
    Could you please explain?

    1. @walter,
      The problem is that at the moment Spain switched to the euro, it had outstanding bonds denominated in Real. Instead of paying off the bonds and then converting to the euro, it converted the Real bonds into bonds denominated in euros. I.e. it immediately put itself into debt in a currency it didn’t issue, when there was no need to do so. It compounded the blunder of going onto the euro with another blunder.

      Borrowing is ‘just’ a reserve drain if you are the issuer of the currency. If you are not, then it is debt. Spain is not the issuer of the euro, so when it borrows euros it has debt.

      1. @Harold, 1. Spain had pesetas, not reals.
        2. The hierarchical move is clear. It’s clear that those debt levels at euro entrance were OK for currency issuers, but not for currency users. Markets gave them the benefit of the doubt while there was growth. Growth would make debt/gdp ratio come down. However ponzi works on the way up, not on the way down. Since the crisis started markets do not see anymore how ez member states go to grow out of ponzi. And it’s clear that euro leaders do not realize at all that the hard way back to 60% is by far not enough.
        3. For the output and employment levels Warren refers to borrowing in the period when Spain was currency issuer. Hence my question.

    2. @walter, PS @ Walter
      1. All euro countries, not just Spain, did this.
      2. I think I see what you specifically are getting at. MMT does teach that debt issuance by a currency issuer is a reserve drain and that spending is what accomodates savings desires. I think Warren means that increased spending to accomodate increased savings desires means higher ratios of reserves in relation to loans so more bonds must be issued to drain them.

      I’ve just been fixated on the collosal stupidity of not only going onto the euro, but of starting out on the euro immediately in massive debt. That alone demonstrates the utter cluelessness of the euro designers and should be emphasized. It really is a currency that was designed for failure.

      1. @Harold, 1. Yes, I know all ez member states made that move. Only Luxembourg that never had its own cb until euro entrance had always a low debt/gdp level. They have always been currency user.
        2. My question refers to the desired output and employment level. I do not see how you can regulate that by govt borrowing.

    3. @walter, Or to put it even more simply, Spain never followed MMT when it was a currency issuer. Instead, it automatically issued debt to match its deficit spending. Therefore as it increased deficit spending ‘to accommodate savings desires’ it issued corresponding debt.

  2. 1. Note in the article : “…the regions that control over one third of spending in highly decentralized Spain”

    To get things under control in Spain will be easier said than done. Many Spanish people would say there are 17 Spains, not 1. To me it looks that markets grossly underestimate the division of actual power in Spain.

    2. Note also at the end of the article:
    “Valencia and other regions are pushing hard to get Madrid agree to guarantee their debts, which should help lower borrowing costs”
    Guarantees from national govts happen regularly now in the euro zone. Holland did it for several financials and I believe Italy too. And these guarantees are not small, but running into the tens and hundreds of billions.
    I get the impression though that:
    a. markets can hardly keep track of all these guarantees overestimate such guarantees given by ez member states that are now reduced to merely currency user. (Comparable to the deposit guarantee system in the ez.)

    How to look at this?
    Markets will test those guarantees? or The dynamics with guarantees may work in a paradoxical way. Once you give them, they will never be needed.

    How do you see this?

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