Spain defends bank rescue as borrowing costs rise

MADRID (AP) -- Spanish Prime Minister Mariano Rajoy defended his government's attempts to shore up the country's hurting financial sector, saying the nation's banks wouldn't be in such terrible shape if politicians had dealt with the problem three years ago after the eurozone was first plunged into economic chaos.

Addressing politicians in a Parliamentary debate on the offer of loan lifeline of up to €100 billion ($125 billion) from the 17 countries that use the euro — and the lack of a definite plan from the government on how much money it will ask for — Rajoy insisted the nation's banks wouldn't be in such a terrible shape if the previous Socialist administration had dealt with the problem three years ago.

"Spain doesn't have the €100 billion and it can't issue public debt," Rajoy said. "In 2009 it could have, but since we (were told we) had the best financial system in the world, now we're lagging three years behind" other European countries that did so in the wake of the 2008 financial collapse, including Britain, France and Germany.

Rajoy blamed then-governing Socialists for refusing to acknowledge Spain's banks were vulnerable to a property boom that went bust, forcing him and his administration to seek the €100 billion loan facility. The interest rate Spain must now pay for 10-year bonds is now at a punishingly high rate of 6.63 percent, meaning the country can't afford to borrow and do the job on its own, Rajoy told parliament.

There has been growing concern that as the country finds fewer and fewer international buyers for its bonds, an increasingly large amount of Spanish government debt is being bought by its banks. As Spain's banks continue to struggle, weighed down by their toxic property loans and assets, the government is finding it harder to sell its bonds.

One hope among eurozone politicians is that the €100 billion loan facility will help shore up Spanish banks' balance sheets, giving them back the freedom to loan out money to businesses and individuals — and also buy more government debt.

However, Spain is in danger of being trapped in a vicious debt circle. The €100 billion loans will increase the government's debt load and the interest payments on them will add to its deficit, the European statistics agency Eurostat confirmed Wednesday. That means Spain will have to find more buyers for its bonds — which could send borrowing costs even higher.

Spain does not have a particularly high debt to GDP ratio; at 68.5 percent, it's far lower than even Germany's, which is 81.2 percent. But Spain is in a deep recession and has poor growth prospects, making it very difficult for it to reduce those debts. So any trend upward is worrisome. Also, the country does have a high deficit; at 8.9 percent of GDP, it's among the highest in the eurozone.

Rajoy didn't offer details about how the bank bailout plan will work except to say that banks will pay back the money they receive, but Spain's El Mundo newspaper reported that the loans to the government will last 15 years at 3 percent with repayments to begin no later than 2017. El Mundo cited unnamed sources familiar with the negotiations, and Spain's Economy Ministry declined comment on the report.

Rajoy also released a letter Wednesday sent by him to top eurozone leaders just before Spain asked for the bailout last weekend. In it he pleads with European Union leaders to push the European Central Bank to restart a program of Spanish bond purchases that helped ease the country's borrowing rate last fall.

The letter, sent June 6 to European Council President Herman Van Rompuy and European Commission President Jose Manuel Barroso, said Spanish companies and households desperately "need access to liquidity. This is impossible if doubts persist about the sustainability of the debt of sovereign states."

It's unclear what impact if any the letter would have, because the ECB is legally independent and forbidden by treaty to take instructions from politicians. The ECB's suspended program of bond purchases was limited in size and duration and aimed at ensuring more uniform interest rates in the eurozone — not at supporting Spain's ability to borrow.

The interest rate Spain has to pay on it 10-year-bond — an indication of market confidence on a country's ability to pay off its debt — fell slightly in afternoon trading down from Tuesday's euro-era high of 6.67 percent. The spike in the yield followed a Fitch Ratings downgrade of 18 Spanish banks, predicting the weakness of the Spanish economy would continue having a negative effect on business. Stocks on Madrid's benchmark index were up 1 percent.

It is not yet clear where the euro area bailout loans for Spain's banks will come from. If the money comes from the existing eurozone rescue fund, the European Financial Stability Facility, its repayments will have the same priority as the all the other private bond investors.

However, if the funds are to come from the new bailout facility, the European Stability Mechanism, its bond repayments are supposed to be given a higher priority than everyone else's — which could mean that other debt would be less likely to be paid off. That could make bondholders less willing to buy Spain's debt or demand a higher interest rate to compensate for the added risk of losses.

Spain will wait for the results of two independent audits of the country's banking industry due by June 21 before saying how much of the €100 billion it will tap. The bailout loans will be paid into the Spanish government's Fund for Orderly Bank Restructuring (FROB), which would then use the money to strengthen the country's teetering banks.

In a report released late last week, the International Monetary Fund estimated Spain needs around €40 billion to prop up banks hurting from an unprecedented real estate boom that went bust.

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Sarah DiLorenzo in Brussels and David McHugh in Frankfurt contributed to this report.