Ben Chue

When it rains in Spain these days, it truly pours misery. Argentina announced on Monday that it was planning to nationalise an oil company, YPF, in which a Spanish firm, Repsol, has a majority stake.

Coming at a time when the government in Madrid has just rammed through the most severe Budget since the death of General Francisco Franco in 1975, this must feel like an economic insult for Spain on top of already intolerable injury.

The government has promised an “overwhelming” response to the threat to Repsol’s financial interests and Prime Minister Mariano Rajoy is in South America to gather support from friendly governments such as Mexico and Colombia.

Repsol’s shares fell by as much as 9 percent on Monday.

European Commission president José Manuel Barroso weighed in, saying he expected Argentina to abide by agreements. “I am seriously disappointed about the announcement,” he said.

Spanish Industry Minister José Manuel Soria also weighed in, saying: “With this hostility, there will be consequences… in the diplomatic field, in the industrial field and on energy.”

But the bitter truth is that Spain is in no real position to win battles abroad. Preventing the roof from falling in at home over the coming months will be difficult enough.

Spanish unemployment levels, which were painfully high even in the boom years of the last decade, are now comparable to those seen in the US in the depths of the Great Depression in the 1930s. About 23 percent of Spaniards are out of work, and youth unemployment in Spain has reached an agonising 50 percent.

And, most alarming of all, Spain’s borrowing costs have jumped in recent weeks, raising the prospect of national bankruptcy. The yield on 10-year Spanish debt rose above 6 percent in trading this week as investors’ doubts intensified about the ability of the Madrid government to avoid having to seek a bailout from its European partners and the International Monetary Fund (IMF).

There was expected to be an important new test of market sentiment yesterday when Madrid was due to raise e2.5 billion (R25.5bn) in a medium-term debt auction. If investors refuse to lend to the government, or will only do so at punitively high interest rates, the panic will increase.

The government wisely took the opportunity of the period of calm in capital markets earlier this year to issue half of the debt it needs to finance its spending this year.

But Madrid still needs a further e40bn to see it through to the end of the year.

So how did Spain get here? European policymakers, particularly German ones, claim that “excessive state spending” was the root of the euro zone debt crisis. But while that was true of Greece, it was not so in Spain, where the government ran a budget surplus going into the 2008 global banking crisis.

What has dragged Spain to the brink of collapse is a massive housing and construction bubble, which exploded four years ago.

The country’s banking system is its weakest point. Last month Spanish banks were forced to borrow e316bn from the European Central Bank (ECB) because they could not raise credit from other European banks.

Worse, the fates of Spain’s weak banks are now entwined with the fate of the government. The ECB flooded the European banking system with liquidity in December last year and February this year. Spanish banks used the cheap ECB loans to buy up Spanish government bonds, driving down Madrid’s borrowing costs.

But now, with sovereign interest rates up and fears growing about the health of Spanish banks, that virtuous circle has turned vicious. The more investors panic about Spanish banks, the more they panic about the Spanish state, and vice-versa.

Can Spain make it without seeking help from abroad? That depends on whether the government can regain the confidence of investors and the economy can generate the growth it requires to soften the impact of the austerity blows in store. – The Independent Page 5