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Rescue loans for Spain's banks buys Europe time

By Peter Svensson

Associated Press

Published: Sunday, June 10 2012 3:44 p.m. MDT

Spaniards dressed up like Bishops for a stag party play the role of a confessor in downtown Madrid, Saturday June 9 2012. Spain will ask for a bank bailout from the eurozone, becoming the fourth and largest country to seek help since the single currency bloc's debt crisis erupted.

Daniel Ochoa de Olza, Associated Press

WASHINGTON — A $125 billion plan to rescue Spain's banks won't solve Europe's debt crisis or ease the pain of double-digit unemployment across the continent.

But it is likely to calm financial markets and buy time for European policymakers to work with other weak economies threatening the stability of the 17-nation eurozone.

Europe still has plenty of troubles to address in the three other countries that have already received financial help — Greece, Portugal and Ireland. In Greece, voters could elect a government next week that will refuse to live up to the terms of the country's $170 billion rescue package. Portugal is combating a toxic combination of high debts and 15 percent unemployment. Ireland is cleaning up a banking mess a lot like Spain's. Then there's Italy, the eurozone's third-the largest economy, where debts are piling up as the economy stagnates.

"We still have some pretty fundamental problems to solve," says Nicolas Veron, senior fellow at the Bruegel think tank in Brusssels. "We need more radical solutions than this one."

Germany, worried that it will get stuck with the bill for any ambitious schemes, has rejected several ideas for easing the crisis. It has been reluctant to ease the terms of previous bailouts to reduce the pain of austerity on Greece, Portugal and Ireland. And it has resisted calls for the creation of joint "eurobonds" that would raise money and spread responsibility for repayment across the eurozone.

Likewise, the European Central Bank has been reluctant to intervene to jolt the eurozone economy. Last week, it passed up an opportunity to reduce interest rates. And it has been reluctant to flood the economy with money to push down interest rates the way the U.S. Federal Reserve has.

But the plan to lend gobs of money to Spanish banks eases an immediate crisis in the euro's fourth-largest economy. The deterioration of Spain's banks and the pressing need for a rescue was threatening to bankrupt its government. That would likely cause far more pain for Europe than the financial messes in Greece, Portugal and Ireland.

Investors were already worried about what will happen when Greek voters go to the polls June 17.

If Greece reneges on the strict austerity measures that come with its rescue package, it could be forced to abandon the euro. Greece's departure from the Eurozone would likely cause financial chaos across Europe: Greek debts would go from being denominated in sturdy euros to being denominated in Greek drachmas of dubious value.

Worse, a Greek exit from the euro would raise fears that another European country such Portugal or Italy might be next.

"A significant part of this (bailout for Spanish banks) has to do with ring-fencing Greece," says Jacob Kirkegaard, a research fellow at the Peterson Institute for International Economics in Washington. "This is enough to prevent added market contagion."

Spain on Saturday asked the 16 other countries that use the euro currency for money to rescue its banking system.

Spain has not yet said how much money it would seek. But the Eurozone finance ministers said in a statement Saturday that they were prepared to lend up to €100 billion.

"This move brings into sharp relief the enormous amount of money that will be needed to cordon off the rest of the euro zone periphery in the event of a Greek meltdown," says Eswar Prasad, professor of trade policy at Cornell University.

The rescue loans will be sent to the Spanish government's Fund for Orderly Bank Restructuring (FROB). The fund would then use the money to strengthen the Spanish banks' capital, their bulwark against loan losses.

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