Exclusive: Spain eyes pension reform with aid package in sight

MADRID Fri Sep 21, 2012 11:25am EDT

1 of 4. Pensioners read newspapers at a seniors centre in Ronda, near Malaga September 18, 2012.

Credit: Reuters/Jon Nazca

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MADRID (Reuters) - Spain is considering freezing pensions and speeding up a planned rise in the retirement age as it races to cut spending and meet conditions of an expected international sovereign aid package, sources with knowledge of the matter said.

The pension measures would save at least 4 billion euros a year as well as fulfill European Union policy recommendations issued in May which senior euro zone sources said were being used as a blueprint for the terms of a sovereign aid program.

The accelerated raising of the retirement age to 67 from 65, currently scheduled to take place over 15 years, is a done deal, the sources said. The elimination of an inflation-linked annual pension hike is still being considered.

Spain is hesitating to apply for external aid to handle a high public deficit and soaring debt. Its borrowing costs fell on Thursday at an auction of a 10-year benchmark bond but relief may be short-lived.

The new pensions steps, which could be announced as soon as next week along with the 2013 budget, would send a strong signal to investors that Spain is serious about implementing structural reforms it has delayed because of the political cost.

Prime Minister Mariano Rajoy, who was forced earlier this year to break campaign pledges such as not raising taxes, has repeatedly said he would not touch pensions, but he has few options left to trim the budget after drastic cost cuts.

He toned down his language last week and said it would be "the last thing" he would do.

Deputy Prime Minister Soraya Saenz de Santamaria on Friday denied the government was studying stopping periodic pension rises.

"The prime minister has said publicly that the first thing he did when taking power was bring pensions up to date and that should be respected ... in his exact words, it would be the last thing he would touch," she told reporters after a weekly cabinet meeting.

Sources with knowledge of the government's thinking said Rajoy's comments were a sign that his stance was shifting.

"He just said that he would not cut the pensions. But did you hear anything else? We both know that there are several ways of cutting. One is to simply leave them steady against inflation," said one of the sources.

A second source said the acceleration in the change in the retirement age was backed by the government while a third source, who discussed the issue with senior Spanish officials, said a freeze was expected.

"Not increasing them is also an adjustment," the third source said.

FREEZE

Many economists also believe a freeze is inevitable.

The 2012 budget earmarks a rise in pension spending of 3.2 percent, including a 1 percent inflation-linked review, but inflation is running close to 3 percent, meaning an extra 4 billion euros would be paid to pensioners in January but booked to the 2012 budget.

So cancelling this year's inflation-linked raise would save the government between 5 and 6 billion euros.

For following years, based on annual inflation of 2 percent, the reference used by the European Central Bank to set its main rates, the adjustment would cost 4 billion euros.

"There is no way around it. You have to cut the link with inflation and freeze the pensions next year," said Jose Carlos Diez, chief economist at Intermoney brokerage in Madrid.

"And to me, that would be just a start... The pensions, the unemployment benefits and the borrowing costs are eating up all the efforts on the spending side so you need to act in those areas," he added.

Both removing the inflation adjustment and accelerating the retirement age increase are long-standing European Union demands and any bond-buying program to help Spain finance its debt would insist on this, senior euro zone sources said.

Countries which were previously rescued, such as Greece, Ireland and Portugal all had to pass steep cuts on pensions.

In Greece, the cuts ranged from 20 percent to 40 percent, while new pensioners had a 10 percent pay cut in Ireland and Portugal scrapped the Christmas and summer extra payments.

SUSTAINABILITY

While an announcement could be made next week when the government adopts the first draft of the 2013 budget, political analysts say Rajoy may be tempted to wait until after a regional election in his native Galicia.

The timing of any request for European aid is in Rajoy's hands. Some pointers suggest he could make the move along with the budget package to pre-empt a credit review by ratings agency Moody's, due by end-September, which might otherwise downgrade Spanish debt to junk status. Moody's has said it would welcome a Spanish aid request.

However in Brussels, EU officials close to the discussion said they did not expect Madrid to seek an assistance program before the October 21 regional vote. That would mean Spain would have to get over a 30 billion euro refinancing hump at the end of October, including 9 billion euros in short-term paper, without the euro zone rescue fund or the ECB buying its bonds.

The spread between Spanish and German benchmark 10-year bonds, a measurement of the perceived risk of investing in Spain, widened a few basis points on Friday to 417.

As Reuters reported first last month, Spanish officials led by Economy Minister Luis de Guindos have been talking discreetly to the European Commission since at least early August about possible conditions and supervision for a precautionary program that would keep Spain in the capital markets.

De Guindos made clear at a meeting of euro zone finance ministers in Cyprus last weekend that Spain, keen to avoid having terms imposed from outside, would announce its own reform measures and timetable on September 28, a day after a draft 2013 budget is approved by the cabinet.

Rajoy performed especially well among pensioners when he was elected in a landslide last year and his first move after taking office was to restore the inflation adjustment his predecessor Jose Luis Rodriguez Zapatero had removed in May 2010 because of the euro zone debt crisis.

Zapatero also passed a law last year to add two years to the retirement age by 2027. Rajoy's People's party, then in the opposition, voted against the change.

With unemployment soon to top 25 percent and set to remain at high levels until at least 2015, the number of people contributing to the state pension system has fallen to its lowest in 10 years. There are now 2.39 workers supporting one pensioner.

The government tapped 4.4 billion euros from an insurance fund to make July and August payments to the 8.1. million pensioners, about a fifth of the population.

It also said it could not rule out using the pension guarantee fund -- meant only for emergencies -- by the end of the year to pay the pensioners their monthly cheque.

(Additional reporting by Luke Baker and Paul Taylor in Brussels; Editing by Fiona Ortiz, Philippa Fletcher, Paul Taylor and Giles Elgood)

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Comments (2)
dareconomics wrote:
The riddle is not if Spain will request a bailout but when it will do so. Ignore all of the europhoria and political machinations and pay attention to the math. Spain just reported that its banks have €172bn in bad loans and they have experienced €224bn in deposit flight year to date. Furthermore, the government needs at least €86bn to finance its deficit and maturing debt by the end of 2012.

These numbers indicate a vast funding hole in Spain, but the picture is actually more grim than what the mainstream media is reporting.

During a banking crisis, bad loans are always under-reported by the banks. Remember that during the American subprime crisis all of the banks kept increasing their bad loan provisions. You can double the number above to €340bn and still be conservative.

Spain is also claiming €224bn in deposit flight from its banks, but the number is certainly higher. As of September 10, Spain’s Target2 liability was the highest in the eurozone, €415bn. This number more accurately reflects the hole in the balance sheet caused by deposit flight of all kinds.

I have been saying that the Spanish government’s fiscal condition is much worse than anyone is letting on. I researched Spain’s bond sales, its maturing debt and estimated its budget deficit based on its own projections. My work is here:

http://dareconomics.wordpress.com/2012/09/06/actual-spanish-financing-needs/

Based on a conservative budget deficit of 8.1% of GDP, Spain needs €86bn to finance itself for the rest of the year. If Spain follows the trajectory of the other austerity nations, then tax revenues have dropped more than they are projecting. Based on the situations in Greece, Ireland and Portugal, a 10% deficit is probably more accurate. This means that Spain will need €130bn to finance itself this year.

Adding these numbers together, 340 + 415 + 130 = 845, gives us the amount this bailout will cost initially. Remember another rule from the Eurocrisis: the cost of the bailout always rises due to austerity.

Now, Europe does not have this much money, so don’t expect Spain to receive a €845bn package. The troika will make fantastic projections of all of these cost inputs to get the package down to a number that it can afford, just like they did in Greece. Then, Spain will continue its depression indefinitely while it struggles to rebuild during austerity hamstrung by all of this debt.

While it is obvious to anyone doing the math that Spain must request a bailout, it has the ability to delay the inevitable for quite some time. The ECB is allowing the Bank of Spain to accept practically anything from Spanish banks in exchange for loans under the ELA. This means that the banks can stay afloat for a few more months until their collateral runs out.

These same banks are also the best (and perhaps only) customers for Spanish debt. As long as they are alive, they will continue financing the Spanish government by buying up all of the debt auctions. The government and the banks are like two drunks holding each other up as they stumble home.

Rajoy is fully aware that each government that has requested a bailout has not survived. As a matter of survival, he will hold off as long as possible. His party is facing regional elections on October 21, so there will not be a request before this date.

The most important part of the equation is that Spain cannot be allowed to fail, so none of the eurocrats or politicians are going to call Spain out on its dodgy accounting. They will not do anything that may precipitate a market panic, so they do not have the leverage to force Spain to act.

The end result of the math and the political calculus is that Spain will continue the present status quo until it runs out of money. I think that it can make it into the first quarter of next year operating in this fashion.

People of Spain, I have a better idea. Revert bank to the peseta. If you wish to see how awesome it is to have your own currency, check out Iceland. Your northern friends experienced a depression, but that is behind them now. Their country is growing nicely, and it is all thanks to the retention of their national currency which the market devalued allowing the Icelanders to pay off their debts and export their way out of trouble.

If you wish to remain in the Eurozone, then look at Greece, because the cradle of democracy is your future. Expect an indefinite depression caused by the straitjacket of the euro.

Of course, if you drop the euro, you lose all of its benefits, which are what exactly? Oh right, it’s good for business. Except with a 24% unemployment rate and a cratering GDP, is it really good for business? It’s definitely good for German business as it gets a weaker currency to pad its exports.

A bailout would also be great news for the German banks that hold Spanish debt and loans, and they should be paid in full at the the expense of the Spanish taxpayer; it is only fair, right?

What is best for Spain? Adopt the peseta and you’ll be out of the depression within two years. Within five years, you will be borrowing on international markets again. Or you can let your politicians continue to put Germany’s interests ahead of yours. It’s up to you.

dareconomics.wordpress.com

Sep 21, 2012 3:14pm EDT  --  Report as abuse
dareconomics wrote:
The riddle is not if Spain will request a bailout but when it will do so. Ignore all of the europhoria and political machinations and pay attention to the math. Spain just reported that its banks have €172bn in bad loans and they have experienced €224bn in deposit flight year to date. Furthermore, the government needs at least €86bn to finance its deficit and maturing debt by the end of 2012.

These numbers indicate a vast funding hole in Spain, but the picture is actually more grim than what the mainstream media is reporting.

During a banking crisis, bad loans are always under-reported by the banks. Remember that during the American subprime crisis all of the banks kept increasing their bad loan provisions. You can double the number above to €340bn and still be conservative.

Spain is also claiming €224bn in deposit flight from its banks, but the number is certainly higher. As of September 10, Spain’s Target2 liability was the highest in the eurozone, €415bn. This number more accurately reflects the hole in the balance sheet caused by deposit flight of all kinds.

I have been saying that the Spanish government’s fiscal condition is much worse than anyone is letting on. I researched Spain’s bond sales, its maturing debt and estimated its budget deficit based on its own projections. My work is here:

http://dareconomics.wordpress.com/2012/09/06/actual-spanish-financing-needs/

Based on a conservative budget deficit of 8.1% of GDP, Spain needs €86bn to finance itself for the rest of the year. If Spain follows the trajectory of the other austerity nations, then tax revenues have dropped more than they are projecting. Based on the situations in Greece, Ireland and Portugal, a 10% deficit is probably more accurate. This means that Spain will need €130bn to finance itself this year.

Adding these numbers together, 340 + 415 + 130 = 845, gives us the amount this bailout will cost initially. Remember another rule from the Eurocrisis: the cost of the bailout always rises due to austerity.

Now, Europe does not have this much money, so don’t expect Spain to receive a €845bn package. The troika will make fantastic projections of all of these cost inputs to get the package down to a number that it can afford, just like they did in Greece. Then, Spain will continue its depression indefinitely while it struggles to rebuild during austerity hamstrung by all of this debt.

While it is obvious to anyone doing the math that Spain must request a bailout, it has the ability to delay the inevitable for quite some time. The ECB is allowing the Bank of Spain to accept practically anything from Spanish banks in exchange for loans under the ELA. This means that the banks can stay afloat for a few more months until their collateral runs out.

These same banks are also the best (and perhaps only) customers for Spanish debt. As long as they are alive, they will continue financing the Spanish government by buying up all of the debt auctions. The government and the banks are like two drunks holding each other up as they stumble home.

Rajoy is fully aware that each government that has requested a bailout has not survived. As a matter of survival, he will hold off as long as possible. His party is facing regional elections on October 21, so there will not be a request before this date.

The most important part of the equation is that Spain cannot be allowed to fail, so none of the eurocrats or politicians are going to call Spain out on its dodgy accounting. They will not do anything that may precipitate a market panic, so they do not have the leverage to force Spain to act.

The end result of the math and the political calculus is that Spain will continue the present status quo until it runs out of money. I think that it can make it into the first quarter of next year operating in this fashion.

People of Spain, I have a better idea. Revert bank to the peseta. If you wish to see how awesome it is to have your own currency, check out Iceland. Your northern friends experienced a depression, but that is behind them now. Their country is growing nicely, and it is all thanks to the retention of their national currency which the market devalued allowing the Icelanders to pay off their debts and export their way out of trouble.

If you wish to remain in the Eurozone, then look at Greece, because the cradle of democracy is your future. Expect an indefinite depression caused by the straitjacket of the euro.

Of course, if you drop the euro, you lose all of its benefits, which are what exactly? Oh right, it’s good for business. Except with a 24% unemployment rate and a cratering GDP, is it really good for business? It’s definitely good for German business as it gets a weaker currency to pad its exports.

A bailout would also be great news for the German banks that hold Spanish debt and loans, and they should be paid in full at the the expense of the Spanish taxpayer; it is only fair, right?

What is best for Spain? Adopt the peseta and you’ll be out of the depression within two years. Within five years, you will be borrowing on international markets again. Or you can let your politicians continue to put Germany’s interests ahead of yours. It’s up to you.

dareconomics.wordpress.com

Sep 21, 2012 3:14pm EDT  --  Report as abuse
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