The Spanish Banking Crisis

As usual the government of Spain has only been making the banking crisis worse.  First, for years they allowed the banks to run riot with risk during the bubble speculating on property.  This was further compounded by the fact that the most troubled banks (the Cajas) are non profit banks in bed with the politicians.  This motivated the Caja banks to make lots of sweetheart loans to their friends and buddies in the construction sector during the property bubble.  Now it has all gone bust and the reposed properties are worth less than the value of the original loans.  They have become toxic.

At first the government crooned that the Spanish banks were not in bad shape like the American ones, but as property prices have fallen assets have become increasingly toxic.  Banks have been reluctant to sell their repossessed properties to avoid having to recognize losses when sold.  The prevailing opinion of the banks in 2008-2009 was to not sell, because if the banks just held on to their real estate, it would all come roaring back in price in a couple of years, and everything would be fine.  These bright ideas came from the financial experts who work at banks, have big degrees and make big bucks.  Since then housing prices have only gone down.  Banks would have been smart to off load their properties when they could (2008-2009) for less of a loss, because every day that they wait the amount that they can get when they sell their buildings goes down.  And contrary to the optimistic scenarios prices are not going to return to bubble levels in a long time-like at least 15-20 years with luck.  But the banks did not sell off their properties, and they have allowed the situation to only get worse.

In the midst of all of this the Spanish government came up with the “bright” idea of merging troubled banks.  The delusional and self serving thinking was that larger banks would be stronger.   The reality is that these bank consolidations only spread the contagion, and created too big to fail large sick banks.  Mergers normally do not provide shareholder value even with private companies.  With semi-public banks shielded from genuine competition, a successful merger is almost impossible.  Mergers need to fire lots of people, but that is not happening quickly enough with these Spanish bank mergers, because the banks have been coddled for so long and politics is involved.

Of course merging bunch of sick banks together to create a “healthy” big bank is the kind of delusional over optimism so prevalent in politics, where every problem can be solved easily and without pain.  No need for banks to confront their toxic assets.  No! just merge them together and the toxic assets will magically go away.  A nice, simple, and no pain way to deal with the problem.

The reality is that the toxic assets are still there, and now even more banks are infected by mergers, and we have created yet another example of “too big to fail”.  What was once a more localized problem of smaller banks has now become a big bank “too big to fail” problem.  Nassim Taleb talks about robustness, and how in nature the death of even the biggest animal does not cause the ecosystem to collapse.  There is no too big to fail in nature, and there should not be in banking.

The biggest of these new merged banks is “Bankia” (made from 7 smaller Caja banks).  Of course Bankia is in deep trouble, and has now become a “too big to fail” bank which can blackmail the government, which has not decided to give 7-10 Billion Euros to Bankia.  We must remember that the Spanish government is on a program to radically cut the budget and supposedly it does not even have 2 dimes to rub together in this climate of austerity…but it has billions to hand over to Bankia for its incompetence.  And I am sure that this is just the start.  Bankia has no incentive to get its act together.  If it needs money it can just call on the government to give it billions, and if the government resists, it can call its buddies at the IMF, and the ECB, who will then pressure the Spanish government to help Bankia (which is what actually happened).  With all of this money being spend on Bankia the government is effectively nationalizing the bank, but I have very little faith that the government will run Bankia any better than it was run before.  Once the government starts managing things, pleasing special interests, like public sector unions and cronies, take prescience over competence and efficiency.

Of course, what the Spanish government should have done is let all the insolvent banks simply fail.  The same should have happened in the US and the rest of the world too.  Let them all fail!!  Yes, there would have been some pain and disruption in the process, but we would have confronted the problem and dealt with it, and would be in much better shape now.  Also it would have been a marvelous lesson to banks, and investors to due some due diligence in terms of dealing with risk.  Instead we have created tremendous moral hazard.  Why should banks control risk and worry about good management when they cannot fail?  No matter what they do they will be bailed out.  Bankruptcy is part of the normal cycle in a free market economy, and it keeps business healthy by eliminating the incompetents.  Instead we have rewarded the incompetents, and not surprisingly we have sick economies and banking sectors.

It is obvious that the bankers have taken over governments, international institutions, the media, etc. who all sing the chorus of “too big to fail”.  They have got a nice racket going with privatized profits, and socialized losses.  Enough is enough.  We have been so indoctrinated  by the system that the only option is “too big to fail”, that we cannot conceive that we have an alternative, which is simply to let banks fail.

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