Angela Merkel insisted that there were “no taboos” in the battle to shore up the euro as Germany came under mounting pressure to defend the currency and the flight of investors from Spain accelerated.
The German Chancellor said that the EU should be ready to consider all options to halt the crisis, amid demands for greater integration including in the region’s banking system.
Her words came as Mario Draghi, the President of the European Central Bank, warned that his institution could not fill the vacuum being left by political inaction at a European level.
Olli Rehn, the European Commissioner for Economic and Monetary Affairs, said that drastic steps were needed to avoid the “disintegration of the eurozone” while Mario Monti, the Italian Prime Minister, called on Germany to reflect “deeply but quickly” about the measures needed to protect the currency union.
Figures from Spain highlighted the steady decay of investor confidence in the Government and the broader single currency, with about €97.1 billion of capital leaking out of the country in the first three months of the year.
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The record sum, amounting to 9 per cent of the country’s gross domestic product, indicated that anxious residents were withdrawing money from troubled banks and squirrelling away their savings overseas.
Simon Ward, chief economist at Henderson Global Investors, said: “This is a measure of the extent to which people are fearful of a break-up of the euro.”
Speaking at a news conference in Stralsund, on the Baltic Sea, Mrs Merkel said: “There are integration steps which will require treaty changes. We are not at that stage today but nevertheless there are no taboos.”
However, in words that will have disappointed fellow European leaders, she mentioned a timetable of five to ten years for fixing the flaws in the euro area. As Greece prepares for elections this month, Spain has found itself this week to be the unwelcome focus of attention in global financial markets as the scale of its banking liabilities becomes clear after the collapse of Bankia, a major lender.
Mariano Rajoy’s Government is putting together a €19 billion rescue plan for the bank, but analysts fear that Madrid’s high cost of borrowing will make it difficult to raise the money without external help.
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Yesterday the yield on Spanish ten-year government bonds hovered at 6.55 per cent, dangerously close to the important 7 per cent level that forced Portugal and Ireland to seek international rescues.
“The current trend of Spanish yields means that, without robust intervention by the ECB, it appears that Spain is heading towards an official sector programme,” said Justin Knight, a strategist at UBS, the investment bank.
Fitch, the credit rating agency, downgraded eight Spanish regions including Andalusia and Catalonia, warning that the deficits were extremely high and local governments were finding it hard to fund themselves. Analysts argue that Italy would be the next to fall if Spain’s crisis spiralled out of control. Mr Monti warned that his country was heavily exposed to the risk of a contagious loss of confidence in the euro area — despite some measures already taken to boost confidence.
“It is obviously a difficult place to be in, when you have a country displaying massive and concentrated efforts of consolidation and structural reforms, which are obviously politically and socially costly, and sees its position threatened by huge possibilities of contagion,” Mr Monti said.
He warned that this “contagion” was a result of weaknesses in the single currency’s systems, rather than a problem specific to Italy, and that urgent steps were needed to overhaul the way the euro operates.
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Mr Draghi, speaking to the European Parliament, called for a “banking union” including a common deposit guarantee scheme and a central fund to help to restore confidence in Europe’s hobbled lenders.
“Can the ECB fill the vacuum of lack of action by national governments on fiscal growth? The answer is no,” Mr Draghi said. “Can the ECB fill the vacuum of the lack of action by national governments on the structural problem? The answer is no.”
Mr Draghi said that governments needed to push forward detailed plans for a more coherent single currency.
“How is the euro going to look like a certain number of years from now? What is the union vision that you have a certain number of years from now? The sooner this is specified, the better it is,” he said.
Mr Rehn, at a Brussels conference, said: “We need a genuine stability culture and a much upgraded common capacity to contain common contagion. This is the case, at least if we want to avoid a disintegration of the eurozone and instead make the euro succeed.”
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Q&A
What’s the trouble with Spain?
Unlike Greece (and Britain for that matter) Spain was pretty disciplined in its public finances before the banking crisis, running budget surpluses in the three years leading up to the crash. But an epic boom-and-bust in the property sector has been its undoing, with prices tumbling 30 per cent from the peak. This has badly affected its banking sector, especially the regional cajas, which lavished money on residential developments during the years of easy money.
What’s Bankia?
Bankia was formed through the merger of seven struggling savings banks and last year sold shares to half a million ordinary punters. It proved to be a very poor investment. The bank has been crippled by its heavy exposure to property loans and is heading for a 19 billion euro bailout — the biggest in Spain’s history. This month it emerged that the Spanish Government was considering injecting its own debt into the bank as part of the rescue plan, rather than tapping the markets directly, a development that further damaged market confidence in Madrid’s finances.
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What about other banks?
With Spanish property values continuing to fall and unemployment heading for 25 per cent, investors fear that Bankia may prove to be the tip of the iceberg. The cost of bailing it out already exceeds the 15 billion euros Madrid previously claimed would be needed for the entire banking industry. Losses on property loans may swell to 260 billion euros, according to worst-case estimates from the Institute of International Finance.
Can Spain cope?
Madrid is already struggling to meet pledges to curb its budget deficit to 3 per cent of gross domestic product next year, so it doesn’t have a lot of cash lying around to pump into its banks. Its implied cost of borrowing has lurched towards 7 per cent, which is cripplingly high. That has raised the odds of Spain seeking European bailout funds to support its hobbled lenders. Many analysts suspect that Spain may be heading down the same road as Portugal, Ireland and Greece towards an official rescue.
Will Spain stay in the euro?
Whereas EU officials are now willing openly to discuss the prospect of a Greek exit, Spain is a far more significant economy. If its public finances are allowed to collapse under the weight of banking losses, a euro exit could become a real danger. Italy would not be far behind, at which point a full-blown break-up of the euro would be inescapable. For that reason, the European authorities are likely to do everything they can to keep Spain afloat and in the euro.