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Cablegate: Madrid Econ Weekly, Oct 6-10 - Financial Crisis

VZCZCXRO4898
RR RUEHAG RUEHDF RUEHIK RUEHLZ RUEHROV
DE RUEHMD #1080/01 2841441
ZNR UUUUU ZZH
R 101441Z OCT 08
FM AMEMBASSY MADRID
TO RUEHC/SECSTATE WASHDC 5429
INFO RUCNMEM/EU MEMBER STATES COLLECTIVE
RUEHLA/AMCONSUL BARCELONA 3599
RUCPDOC/DEPT OF COMMERCE WASHDC
RHMCSUU/DEPT OF ENERGY WASHINGTON DC
RUEATRS/DEPT OF TREASURY WASHDC

UNCLAS SECTION 01 OF 02 MADRID 001080

C O R R E C T E D C O P Y (ADDED SENSITIVE CAPTION)

SENSITIVE

SIPDIS

STATE FOR EUR/WE, EEB/IFD/OMA
COMMERCE FOR 4212/DON CALVERT
TREASURY FOR IA/OEE: W.LINDQUIST

E.O. 12958: N/A
TAGS: ECON EFIN ELAB SP
SUBJECT: MADRID ECON WEEKLY, OCT 6-10 - FINANCIAL CRISIS

REF: MADRID 1050

MADRID 00001080 001.6 OF 002


1.(SBU) Summary: The international financial crisis and the
GOS, reaction to it have dominated economic news in Spain
this week. In the context of bank failures and dramatic
policy shifts elsewhere in Europe, as well as worldwide stock
market plunges, two extraordinary GOS measures have generated
relatively little controversy. The GOS announced it would
buy up to 50 billion euros of mortgage-based assets from
Spanish banks; relative to the size of Spain's economy, this
effort is comparable to the U.S. rescue fund. Reacting to
Irish and German actions, the GOS also increased from 20,000
euros to 100,000 euros the guarantee on bank deposits. The
stock market has followed world markets into a steep decline.
The IMF again lowered its growth forecasts and now predicts
the economy will contract in 2009 and unemployment will
approach 15%. Despite concern about the broader economy and
the worldwide financial crisis, authorities and banks insist
that Spain,s banks are better able than some of their
European counterparts to weather the financial crisis. The
crisis will complicate GOS efforts to pass the 2009 budget,
but the first serious tests of whether it has weakened
support for Zapatero will not come until the Basque and
Galician regional elections, which are expected to be held
next April and June, respectively. End Summary.

Lots of (Re)Action ) Deposit Guarantees and Bank Fund
2.(U) After President Zapatero met on October 6 with the
heads of Spain,s three largest banks and three largest
savings banks (cajas), the GOS announced that it would raise
the deposit guarantee from the existing 20,000 euros, whether
or not EU economy/finance ministers were able to agree to
such an increase the following day. The ministers did agree
on an increase to a minimum of 50,000 euros, but Zapatero
then announced that Spain would guarantee deposits up to
100,000 euros. It is not clear who will pay for the
increased guarantees; banks and cajas have financed the three
existing funds that cover the 20,000 euro guarantee.
3.(U) Zapatero also announced a temporary 30-billion euro GOS
fund to buy mortgages and mortgage-based assets from banks.
Relative to the size of Spain,s economy, the fund, which can
be increased to 50 billion euros if needed, is comparable to
the 700-billion-dollar U.S. fund. However, the fund is
different from the U.S. fund in that it will only buy
top-rated assets from the banks, as it is aimed at injecting
liquidity, not cleaning up bank balance sheets. It is more
attractive to banks than using existing European Central Bank
mechanisms because the ECB will only lend for 6 months, while
the GOS plans to keep its holdings for up to 3 years.
4.(U) Second Vice President and Economy/Finance Minister
Solbes has emphasized that the GOS does not expect to lose
much, if any, money on the fund and that the only impact will
be a manageable increase in the debt/GDP ratio from 39% to
42% for 3 years. (This is well below the average EU-15 ratio
of around 60%.) Representatives of banking associations and
leading cajas have said that the fund will allow them to meet
their funding needs until at least the second half of 2009,
even in the unlikely event that all other sources of credit
were to be closed.
5.(U) On October 10, the Council of Ministers approved the
deposit guarantee increase and creation of the fund and
announced that the fund could make its first asset purchases
before the end of the year. Press reports suggested that the
GOS would purchase up to 10 billion euros this year and up to
20 billion in 2009. Also on October 10, Zapatero met with
French president Sarkozy and urged Sarkozy to call a meeting
of eurozone heads of state to address the crisis.
Preferring EU Action
6. (SBU) The week,s events show how the GOS, actions have
been influenced by external developments. Solbes has said
frequently that he did not believe the deposit guarantee
increase was initially necessary, and he has described it as
a preventative measure. However, after Ireland and later
Germany guaranteed all deposits, the GOS felt it had no
choice in order to maintain public calm. The bank support
fund may also have been in part a response to actions
elsewhere. Zapatero and Solbes have called for coordinated
EU-wide action in order to avoid situations like this.
Without such coordinated EU action, the GOS faces competing
concerns in its effort to maintain confidence ) inaction
risks being seen as an inability or unwillingness to do
anything to stop the crisis, while dramatic GOS measures that
are not taken by all EU countries risk being seen as evidence
that Spain,s situation is precarious.
Banks/Cajas Believed to be Relatively Healthy

MADRID 00001080 002.6 OF 002


7. (SBU) The GOS and the financial community believe -) and
authorities have repeatedly emphasized -- that Spain,s
financial sector is in better shape than those in other large
EU countries. Because of the Bank of Spain,s conservative
regulation and Spain,s position as a net capital importer,
Spanish institutions have almost no exposure to U.S.
mortgage-based assets and have little exposure to Lehman
Brothers assets. While the domestic construction collapse
and the resulting slowdown in the broader economy have caused
loan delinquencies to increase rapidly, they remain at
manageable levels, at least for now. Mortgage delinquencies,
though rising, are still at relatively low levels. The two
largest banks, Santander and BBVA, are widely diversified
internationally, and Santander has been looking to buy
foreign banks at bargain prices. All Spanish banks have seen
significant drops in their stock prices over the last year,
but none are thought to be in imminent danger of collapse.
Savings banks (&cajas8) are considered to be in slightly
worse shape because of their greater exposure to mortgages,
construction, and real estate. There is speculation that
some of the smaller cajas may need to merge, and the GOS is
considering legislative proposals that would enable the
merger of cajas ) many of which are controlled by regional
governments ) from different regions.
Broader Economy Outlook Continues to Worsen
8.(SBU) Despite the relative strength of Spain,s financial
sector, the financial crisis will certainly aggravate the
damage the broader economy has already felt from the
construction slowdown that started last year. This week the
IMF again lowered its forecast for overall Spanish economic
performance, predicting that 2008 growth would be 1.4% and
2009 would see a contraction of 0.2%. (Comment: Only 1.4%
growth for the full year would imply that a recession has
started in the year,s second half; this is consistent with
widespread reports of an abrupt decline in economic
activity.) The IMF also predicted that unemployment would
average 14.7% in 2009. The stock market has responded to
both Spain,s own deteriorating prospects and turmoil in
international markets; after falling by over 5% on October
10, the IBEX-35 blue-chip index was down 18% for the week and
almost 40% this year.
Little Immediate Political Impact
9.(SBU) As post has reported previously, Zapatero has been
criticized for what has been portrayed as unwillingness to
admit ) especially during his successful re-election
campaign earlier this year ) the severity of the economic
situation. His insistence that criticism by the opposition
Partido Popular (PP) is unpatriotic and his efforts to blame
Spain,s economic difficulties on the U.S. subprime mortgage
crisis also have generated skepticism. Unsurprisingly, the
public is also unhappy that the GOS has not been able to
prevent the financial crisis, although criticism may be muted
by the sight of the apparently more serious troubles in the
U.S., the UK, and Germany.
10.(SBU) Zapatero may be helped by the apparent inability of
the PP to do much more than criticize his handling of the
crisis. He is expected to meet with PP leader Mariano Rajoy
in the next week or so to discuss the crisis, now that Solbes
has held preparatory meetings with Rajoy,s economic team.
The crisis and the economic slump,s impact on tax revenues
will complicate the already-difficult prospects for passage
of the 2009 budget, as the PSOE is slightly short of the
necessary congressional majority. However, the issue will be
resolved one way or the other by the end of the year; if no
agreement is reached, the 2008 budget will be repeated.
Otherwise, the first major post-crisis tests of Zapatero,s
political strength will come with the Basque and Galician
regional elections, which we expect will be held next April
and June, respectively.
AGUIRRE

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