Euro Gains As Spain Weighs EU Credit Line

The Euro is trading higher on Tuesday after reports have surfaced that the Spanish government is weighing the need for an EU credit line through the EU’s permanent rescue fund, the European Stability Mechanism (ESM). The story received coverage in the Financial Times and Wall Street Journal.

A senior Spanish finance ministry official said on Monday an evening that Spain was seeking support from euro-area partners to pursue an EU bailout request. 

The Spanish finance official said he expected no decision about the matter this week even though EU leaders will be meeting on Thursday for an EU Summit.

Under current guidelines, the Spanish government needs to officially request a sovereign bailout from the EU before the funds can be disbursed.

However, according to the government official, the Spanish government was uncertain of receiving EU bailout support due to concerns about the stability of the euro because of investor fears that could shift to Italy, a country which is viewed as the next euro area country that may need to seek a financial bailout.

Last month, Spanish Prime Minister Mariano Rajoy said that he would only seek a bailout for Spain if he received “unanimous” support from other Euro-area leaders and if “the conditions attached are reasonable.”

The decision to grant Spain a rescue bailout through the ESM with a lending capacity of €500 billion ($643 billion) is the first step that is needed for the European Central Bank (ECB) to unleash the ECB’s bond-buying program and drive down Spain’s borrowing costs.

But there are economic and political ramifications if Spain decides to receive an outside financial bailout package for the indebted country.

A country applying for EU bailout support is required to agree to new terms of an economic austerity program and monitoring by the International Monetary Fund.

Spain has already undertaken self imposed austerity measures, including an earlier commitment to slash its 2012 budget-deficit target to 6.3% of gross domestic product from more than 9% of GDP last year.

Austerity measures are already highly unpopular across Spain with a contracting economy and 25% unemployment level. Regional elections in Spain are scheduled for October 21st.

Despite facing Spanish reservations about receiving an outside EU bailout rescue package with more austerity reform conditions, the Spanish government official cited in the Wall St. Journal, said he was “confident that the EU wouldn’t impose conditions much beyond the steps Spain is taking by itself, including a substantial boost in its sales tax.”

German government officials have previously expressed that they don’t want Spain to apply for a bailout yet because the decision would require a vote in the German parliament and lead to resistance from Chancellor Angela Merkel.

However, Bloomberg-Businessweek reported this morning that” two German lawmakers said the country is now open to Spain seeking a precautionary credit line from Europe’s rescue fund.”

The move to seek a sovereign bailout for Spain’s government follows another EU bailout that has already been specifically targeted for Spain’s banks.

Spain’s banks are heavily indebted due to large real estate losses and need up to €59.3 billion euros ($76.3 billion) to bail out Spain’s banks, according to a recent bank stress test conducted in September.

European Union funds totalling €100 billion have already been pledged to bailout Spanish bank by euro-area finance ministers in June.

Spain said that approximately €40 billion euros of the total will come from European aid while the rest could be raised by the banks themselves.

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