The Spanish government will not only benefit from the new bond purchase program, announced by the European Central Bank on Thursday – known as the outright monetary transactions, OMT. It will also benefit from the decision by ECB President Mario Draghi to eliminate the minimum ratings for assets that are accepted as guarantees to provide liquidity to banks. 

This way, Spanish banks can continue to use public debt as collateral even if it drops to ‘junk bond’ levels, and thus, it can continue to participate in the treasury auctions with capital from the ECB.

As is well known, the Spanish banking sector is the major financial backer of the state, since a large number of foreign investors have left the country because of fear over possible outstanding debt or, even, an exit from the euro.

In particular, it is the state-controlled entities that are most actively acquiring public debt and the majority of the purchases are done with financing from the ECB and precisely with public debt as collateral.

Net debt hiked

With this mechanism, the net debt of Spanish entities to the ECB hiked to about €376bn in July, which is 11.4 percent more than the €337bn in June; a historic record, according to Bank of Spain statistics.

This equals half of the financing awarded by the eurosystem in total to the whole Eurozone – €744bn – and the Spanish banks use it primarily to meet maturing debt payments and to continue buying public debt while foreign investors have fled.

Thus, the Spanish banks increased their sovereign debt positions by €84bn during the first six months, while foreign institutes reduced their positions by €78bn during the same period, according to the Treasury. This way, the decision to eliminate the requirement on minimum ratings on behalf of the ECB allows for this race to continue even if the rating will fall to ‘junk bond’ levels.

Such a fall is more than likely, given that Moody’s has announced that it will finalize its revision of Spain this month, which it downgraded three notches to Baa3 in June a gave a negative forecast.

If, as expected, this new revision will mean another downgrading, Spain will receive a Ba1 rating, which is below the investment grade, that it, it enters the ‘junk bond’ level.

A favor to the banks

More than that, Draghi has done a favor to the actual banks. If Spain’s sovereign debt falls to these levels, the levels of the banks will also decrease to ´junk bond´and, thus, would no longer be deducted if the ECB would not change this requirement.

The major part of the guarantees held by the Spanish banks and savings banks towards Frankfurt is constituted by its own mortgage loans and business sector loans, which are impossible to place on the markets but are accepted by the monetary authority.

The problem of the Spanish banking sector is precisely that they have no more credits to secure because they have already used all that was available. This, together with the constant outflow of deposits, which has reached record levels since the euro was introduced, provides a new cash problem in the financial sector.

This is true even to the extent that the Bank of Spain has awarded an emergency loan of €400m to one or several entities in August, which is a trivial amount, but it can be the prelude to what is about to come.