Spain's Bank Could Torpedo Euro
Spain's economic crisis did not result from government overspending. Prior to the Great Recession, Madrid's budget was consistently in surplus, and Spain's debt-to-GDP ratio is only 70% -- lower than Germany or France.
During the boom years, wealthy northern Europeans rushed to purchase second homes and vacations in Spain's sunny climate, instigating a rush of foreign funds into its banks to finance dwellings and hotels. After the 2008 global crisis, land values fell, and banks were stuck with nonperforming real estate loans.
Faced with similar challenges, the U.S. had tools that neither Spain nor the European Union possess.
The Federal Reserve pumped some $2 trillion into U.S. banks and financial institutions -- including purchases of many nonperforming and high-risk loans. The European Central Bank has extended long-term credit to banks against mortgages and business loans deemed secure, but it cannot bail out banks with too many nonperforming loans.
The ECB can lend money to national central banks, which extend credit to commercial banks against their loans, but if those loans fail, national central banks assume liability. Unlike the Fed and ECB, those can't print money, and their central governments must either tax citizens or borrow euro on international capital markets to make up losses.
A Thin TARP
Madrid's current bank bailout has undertaken an exercise similar to the U.S. Treasury's TARP -- selling bonds to finance bank bailouts; however, the ECB does not stand ready, as the Federal Reserve did for the Treasury, to print money to buy any bonds Madrid can't sell.
The ECB should remain reluctant to acquire powers similar to the Federal Reserve, because it lacks authority the U.S. central bank shares with the Comptroller of the Currency to regulate banks. The European Banking Authority has very limited powers, and bank supervision remains in the hands of national governments, subject to whims of national politicians and elections.