Wednesday, November 14, 2012

A "pat on the back" from the EC is an invitation for Spain to ask for OMT; Rajoy unlikely to budge

The EC today announced that Spain has met its economic and fiscal requirements put in place by the EU.
MNI: - The European Commission said Wednesday that Spain had fulfilled its economic and fiscal obligations under EU rules for this year and next but warned that it could need to take more action to hit targets in 2014 if the economy performs worse than the Spanish government expects.

"We have concluded that for 2012 and 2013 Spain has taken effective action to restore the sustainability of its public finances," EU Economic and Monetary Affairs Commissioner Olli Rehn told a press conference here.

Structural reforms to improve the flexibility of the Spanish labour market and open up closed professions "go a long way" towards meeting objectives set out for Spain by the Commission and EU governments, Rehn said.
This is quite surprising. After all, Spain is widely expected to overshoot its deficit target.
Barclays: - The outlook for the Spanish economy remains very subdued and we have revised our GDP growth forecast for 2013 down accordingly from -1.4% to -1.8%, below consensus, and broadly unchanged with respect to our current growth forecast for this year. We think that given some delay in the implementation of consolidation measures in the first half of this year and a weaker economic environment, the general government deficit will once again overshoot the target (Barclays: 7.0% of GDP this year and 5.0% of GDP in 2013 vs. Government: 6.3% of GDP this year, 4.5% of GDP in 2013).
Apparently the recent "structural reforms" put in place by Spain were enough to satisfy the EC. The arbitrary approach to governance in the EU is strange to say the least. Even the EC's own forecasts for Spain's deficits are far above targets (7.0% vs. 6.3% in 2012, 6.0% vs. 4.5% 2013, 6.4% vs. 2.8% 2014).
Merrill Lynch: - We are a bit puzzled with the conclusion. Despite Spain being compliant with the structural fiscal effort requested they are missing (or lack action) on the rest of recommendations. Headline deficit commission forecasts for 2012, 2013 and 2014 are well above budget deficit targets. Spain has not detailed enough measures for 2013 and, particularly, for 2014. Spain is still to deliver an independent fiscal council ensuring its full institutional and financial independence, something Spain has promised to put in place by Q1 2013.
Merrill's theory is that this strange "pat on the back" from the EC is an invitation for Spain to officially apply for the ECB's OMT Program (and still keeping Portugal out) before markets force Spain's hand. As Spain's economic conditions and deficit worsen, the risk increases that the OMT negotiations will have to be conducted under duress.
Merrill Lynch: - We view the Commission move as a potential invitation to apply for ECB OMT support. Negotiating conditionality of a programme would be easier in the current context, where Spain is delivering large structural fiscal efforts and there is still hope they can deliver on the rest of recommendations (not only those related to excessive deficit procedure but also to the macroeconomic imbalance procedure, i.e. the structural reforms). If Spain had failed to deliver on these by the time it asks for help we would envisage a tougher set of conditions that if Spain applied for help today
It seems however that in spite of this friendly gesture by the EC, Rajoy is going to hold off on officially requesting OMT. It is a dangerous game played by Spain's government that may end up costing them in the long run.
Mrrill Lynch: - ... we still think that the probability of a voluntary request is low at this point –given the political costs- and a request for help is unlikely without market pressure (see discussion).


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