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Spain digs in its heels over ECB's bailoutconditionsMore eurozone jitters as Mariano Rajoy stands firm against Greek-style rescue

Julian Knight

Wednesday, 12 September 2012

The Spanish Prime Minister sparked concern across the eurozone yesterday afterapparently ruling out a Greek-style bailout that would force Madrid to make specificbudget cuts.

Mariano Rajoy's resistance could stand in the way of a much-anticipated rescue of thecountry, which is struggling to bring its finances under control. After facing eye-wateringborrowing costs over the summer, Spain is seen as a prime candidate for assistance underthe European Central Bank's new bond-buying scheme, which is meant to bring down thepunitive interest rates faced by debt-laden countries in southern Europe.

But the scheme unveiled by the ECB President Mario Draghi would first force Spain toapply to one of Europe's bailout funds something that could force Madrid to implementspecific spending policies. "I will look at the conditions. I would not like and I could not

accept being told which were the concrete policies where we had to cut," Mr Rajoy toldSpanish television in his first interview since taking power in December.

He said he had not yet decided if the ECB scheme to buy short-term bonds was"necessary or convenient".

The country's generous state pension appears to be one key area that the PM is unwillingto cut. "The first instruction I gave to the Finance Minister who is drawing up the budgetis that the people it shouldn't affect are the pensioners," he said.

The ECB announcement last week has reduced the pressure on Spanish governmentbonds, allowing the government to borrow at more affordable costs as it attempts to fixits finances. But the markets may turn sour in the wake of Mr Rajoy's comments, astraders had been expecting Madrid, which has already had to go cap in hand to itsEuropean partners for money to prop up its ailing banks, to apply for the ECB's help.

The Rajoy government has already raised income tax and value-added tax and pushedthrough billions of euros of cuts to public services including education and health.However, the PM said that pensions would not be cut in the 2013 budget.

Speaking ahead of a government review of Spanish lenders, Mr Rajoy also questionedwhether or not the country's banking industry actually needed the bailout of up to 100bn(80bn) agreed last year as it tried to cope with massive debt write-offs following aproperty market collapse.

Despite his words, market watchers still expect Spain to seek the help of its Europeanpartners. "The stricter the conditions, the more unwilling will Spain be to request support.Still, we see it as almost inevitable that Spain will eventually have to relent and requestaid," Merrill Lynch analyst Bill O'Neill said.

As for when the dam may break, Mr O'Neill reckons that will come in mid-October, whenthe S anish overnment has a "demandin market fundin schedule".

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Signs of Spanish resistance could, however, trigger a reversal in the market rally causedby the ECB announcement. "The market has been overbought in the short term after theECB announcement," said Henrik Henriksen, the chief investment strategist at PFA PensionA/S in Copenhagen, where he helps to oversee $55bn in investor cash.

Mr Rajoy's comments come as investors nervously look forward to another crucial week inEurope, with the German constitutional court in Karlsruhe to decide today whether to stopGermany's participation in the 500bn European Stability Mechanism bailout fund. A rulingagainst participation could threaten the future of the euro.

Meanwhile, the Greek tragedy continued to unfold yesterday, with the Greek PrimeMinister, Antonis Samaras, flying over to Frankfurt to explain to the ECB President, MarioDraghi, why he had failed to secure agreement from his coalition partners on furtherspending cuts.

Beyond Europe, debt woes continued to haunt the United States, which was threatenedwith another ratings cut this time by the Moody's ratings agency, which said it couldlower its AAA rating for the country, probably by one notch, if federal budget talks breakdown.

Mr Rajoy's comments come as investors nervously await another crucial week in Europe

Euro crisis: Where the states stand

Germany

All eyes will be on the German constitutional court today as it rules on whether theeurozone's most powerful member can take part in the European Stability Mechanism, thecurrency bloc's permanent bailout facility, which is meant to replace the EuropeanFinancial Stability Facility. A nein from the court will probably send markets into a tailspinas it will cast serious doubt on the zone's ability to shore up weaker members and thesingle currency. However, a nod from the court's red-robed judges which is what mostanalysts expect will be far from the end of German opposition to funding bailouts, withlegal challenges now being lodged against the ECB's bond-buying scheme.

Greece

If Spain is in the eurozone emergency ward, then Greece could be about to enter themorgue. The government of Antonis Samaras has failed to agree a further 11.5bn (9bn)of cuts that the Prime Minister has said is key to securing the future of the country'sbailout funding. The leaders of the three parties in the coalition government will meettoday to try again to thrash out an agreement, but their main hope seems to rest ongetting the EU to agree to a softening of its austerity requirements, with Mr Samarasmeeting Mario Draghi, the European Central Bank chief, yesterday to plead his country'scase ahead of a summit of eurozone finance ministers on Friday.

Italy

Like his Spanish counterpart, the Italian Prime Minister, Mario Monti, is believed to opposeextra conditions being imposed on his country before it can benefit from the ECB's newbond-buying scheme. Yesterday, he admitted to journalists that his government had"aggravated" the recession with its austerity measures but said it would invest 50bn ininfrastructure in the coming months. His comments came as it emerged that the secondquarter for the Italian economy was worse than originally forecast, with a contraction ofby 0.8 per cent between April and June, instead of the original figure of 0.7 per cent.

France

One of Continent's strongest advocates for pro-growth policies, President FranoisHollande is himself set to unveil a dose of George Osborne-style belt-tightening to keep

French finances in check. Up to 30bn of tax rises and spending cuts are expected to bethe key feature of France's upcoming budget. The Socialist leader also pledged to reformthe labour market, in the face of union opposition, as he aims to return the economy togrowth by 2014 while narrowing the fiscal deficit to around 3 per cent of economic outputby next year.

Portugal

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Recession-hit Portugal enjoyed some rare good news yesterday with the EU and IMFagreeing to loosen budget controls imposed as part of the country's 78bn bailout. Thismeans the government will be able to run a slightly bigger deficit than originally plannedwithout endangering the next tranche of cash from the EU and IMF. The reprieve followsthe deterioration of the country's finances following worse than expected tax revenues asthe economy bumps along in its worst recession since the 1970s. Nevertheless, thegovernment of Pedro Passos Coelho has been praised by the Troika for "staying thecourse" over austerity, even recently raising workers' social security contribution rates.