As in the movie that led Pedro Almodóvar to become an internationally famous film director in the late 1980s, Spanish banks have been “on the verge of a nervous breakdown” during the 4 last years, facing a number of serious business challenges and a regulatory overhaul.
The European Central Bank and the European Commission both report that the sector has shown some signs of increased stability recently, but problems persist relating to Spain’s massive property crash and continued high unemployment.
This telling off from European authorities represents just one more step in the long process of restructuring and recapitalisation of a banking sector that is aiming at recovering its credibility and international presence.
The new conquistadors
Before the financial crisis started the Spanish banking sector was seen as one of the most successful of the world. Large Spanish banks had built a reputation internationally – in Latin America they were considered as the new “conquistadors”.
Smaller lenders - namely savings banks - were seen as an example of how to develop a double-bottom line business (profitability plus social responsibility), with a substantial geographic outreach that gave Spain one of the lowest levels of financial exclusion in Europe.
The country’s banking supervision structure also had a great reputation before the crisis. The most prominent example was the Bank of Spain, which was known for adopting international standards of solvency before it was required to do so. It was also one of the rare institutions in the world to implement a so-called dynamic provisioning model in 2000, well before the crisis, requiring banks to set aside provisions in good times to cover losses in bad times.
No El Dorado
Given the precedents, it may seem surprising that Spain has experienced one of the most severe banking crises in recent history. Simply put, the magnitude of the housing bubble was huge and very difficult to digest in an economy with several serious problems. Spain was, and still is, too dependent on external financing. Its economy is uncompetitive, and the private sector has accumulated huge levels of debt (over 220% of GDP).
However, it took some time for the Spanish authorities to acknowledge the banking crisis. They employed different terms like “international liquidity tensions”, and “the need for restructuring to adapt to a new environment” but it was only in 2012 the words “banking” and “crisis” were put together in public statements.
Almost all the crisis resolution mechanisms put in place in Spain from 2009 to the beginning of 2012 were focused on restructuring the banking sector, with much less weight on recapitalisation. This made the Spanish case very different from other European experiences: the regulatory action happened later in Spain, there were almost no bail-outs in 2008 and 2009, and the sector followed a significant consolidation which is still ongoing today.
Savings banks in particular have been affected. They specialised in real estate lending and did not benefit from diversifying their investments across different sectors and national boundaries, as their larger commercial peers were able to.
There were 45 savings banks with an average size in terms of total assets of €29.4 billion as of December 2009. The sector is now composed of 14 institutions or banking groups, with average total assets of €84.9 billion Euros as of September 2012.
A true resolution?
In June 2012 the persistence of the recession and the country’s specific financing difficulties made it necessary for Spain to sign up for contingent bailout aid from the European Union. A Memorandum of Understanding, along with further efficiency plans for troubled banks, implied the nationalisation of a number of lenders and the burden sharing of the losses, partly assumed by retail bondholders.
EU participation has moved the response to the crisis in Spain from further restructuring towards a true resolution. Even the largest banks have had to face significant deleveraging - with several asset sales, mainly in Latin America - in order to increase capital levels.
However, this new playground has some remaining threats and challenges. One of them is the likely increase of non-performing retail mortgages and corporate loans which, up to now, have remained relatively low.
Spain is one of the largest mortgage markets in the world in relative terms. Total outstanding mortgage debt held by Spanish residents is 64% of GDP. This is considerably higher than comparable countries, such as Italy (22.7%), France (41.2%) or Germany (46.5%).
The international dimension to this is crucial. Spanish people owe €683 billion in outstanding mortgage-backed-securities and “covered bonds” (backed by mortgages), and to a large extent this debt is now in the hands of German, French and British investors.
Beyond these financial challenges, there is also an even more important long-term goal for Spanish banking. The sector traditionally prides itself on its international competitiveness and local outreach that fosters regional development and prevents financial exclusion. The challenge now is to recover its credibility and reputation, without losing sight of these traditions.