Global Economic Update: Spain Requests Bank Bailout

The past couple of months have been plagued by fears over the Eurozone crisis. The uncertainty over the Eurozone and the prospect of a break up of the Euro has placed the markets in turmoil. 

The European ministers and the markets have stopped talking about Greece for the time being. The banks, politicians and markets have finally caught up with the fact that Greece is technically insolvent and has been for a while now. We believe it is likely that the process has begun to initiate an orderly exit of Greece from the Euro (dubbed the “Grexit”). It takes months to design and print a new currency and an orderly exit is likely to take place toward the latter part of 2012 or early 2013. A Greek exit is inevitable and an orderly exit could enable the markets and the fragile economy to cope with the transition. However, a disorderly exit could have significant repercussions to the markets and the entire banking sector. Attention has therefore been drawn to Spain where the current turmoil could have repercussions for the rest of the Eurozone. 

The Spanish economy is in financial difficulty. Low productivity, record unemployment and the rising cost of debt is creating a major issue for one of the largest economies in the Eurozone. The Spanish prime minister has recently announced that Spain have had problems recapitalising the Spanish Banks and is facing a banking crisis. Quite simply, the government does not have the necessary resources to bail out its failing banks. The recent nationalisation of Bankia, Spain’s third largest bank has caused tremors in the markets, made worse by rumours that Bankia requires a further bail out. Last week, Spain made a request to the European Central Bank (ECB) for a direct injection of capital into the Spanish banks, something that has never been sanctioned before in Europe. Credit ratings agency Fitch has responded by downgrading Spain's credit rating from A to BBB status due to concerns over the outlook for the Spanish Banks. The credit downgrade will further exacerbate the problems in Span as it will put upward pressure on the cost of borrowing. The politicians in Europe will need to react quickly to the growing crisis and come up with a plan to prevent the possibility of a Spanish bank run which could severely damage the economy and trigger a breakup of the Eurozone. 

The British Pound has continued to strengthen against the Euro due to the growing uncertainty over Europe. The Pound is now trading at a rate of 1.24 against the Euro. The Pound is trading at 1.55 against the US dollar. 

China has responded to the growing crisis by cutting interest rates by 0.25 percent, the first cut since November 2008.  The Chinese economy has been slowing as China begins to feel the effect of the Eurozone crisis. It is hoped that the interest rate cut will provided added stimulus to the economy and maintain China’s competitiveness. 

Focus has also turned to India where the economy is slowing significantly as private direct  investment begins to dry up.  This has been followed by a slump in the currency and investors are beginning to pull their money out of the country.

Failed Contractor Awarded MoD Deal

CSC, the US contractor services firm responsible for £1 billion failure to deliver an essential IT programme for the NHS has been awarded a contract with the Ministry of Defence (MoD). The news stunned union leaders and MP’s because the contractor has banned by David Cameron from performing any more government work after failing to settle its dispute with the NHS. 

CSC has been awarded a £400m contract to run the pension administration for military veterans. Ministers have expressed concern over the company’s poor track record for delivering outsourcing relating services to the government. The news is particularly disappointing for the UK economy as ministers continue to award high margin work overseas without apparent regard to the quality of the work. More support should be provided to UK contractors who have more than sufficient skills to deliver this type of work.

Global Economic Update: Fears Mount Over Spanish Default

Cost commentators now perceive that it is only a matter of time before a Greek default. Shares in De La Rue have already begun to rise in anticipation of new currency being printed should Greece revert to the Drachma. However, Greece accounts for only 2% of the EU economy and has already written down 50% of its debts. The banks (and the markets) have had plenty of time to prepare for a Greek default and the bulk of the debt should already have been written down in their books. 

Of greater concern is Spain which has a much larger economy and any default could trigger a major collapse of the banking sector in the Eurozone. The Spanish banking system is currently in distress. The Spanish government have had to provide €4.5 billion aid to the troubled Bankia, the county’s third major bank. Last Friday it emerged that the bank could need another €19 billion. Investors have now begun to worry that the Spanish government could bankrupt itself in bailing out it’s banks. The Spanish economy has been suffering from recession for some time now. Last month, unemployment rose to 25%, the highest in Europe and bond yields have reached unsustainable levels of 6.5%. Like Greece, Spain is suffering from taking on excessive debt. Leaving the Euro could be their only solution as aid does not appear to be forthcoming from their neighbours in the Eurozone. 

Cyprus is the latest country to be suffering from the Eurozone crisis as its banks have significant exposure to Greece. The Cypriot president has recently requested bailout funds from the ECB. 

Companies are now taking their investments out of Europe as the economic uncertainty is beginning to affect the Euro which has depreciated 7% against the US Dollar.  The US is seen as a safe haven compared to Europe due to its stronger manufacturing and economic base. 

Europe is in deep recession and a banking collapse is likely. Change is required before we can reach equilibrium as too many countries have overstretched themselves and taken on excessive levels of debt.