Spain’s central bank, the Bank of Spain, reported today that the country’s banks borrowed a net average of €227.6 billion ($300 billion) from the European Central Bank (ECB) in March. The borrowing included funds offered through the ECB’s long-term refinancing operations (LTRO).
Spanish banks are using some of the funds to buy the country’s sovereign bonds in an effort to keep bond yields low. While that does help, the bond-buying also combines the risks taken on by the banks and the sovereign. Spain’s finance minister, Luis de Guidos, noted the issue earlier this week:
A consequence of the ECB’s liquidity measures is that the correlation between sovereign risk and banking risk increased all over Europe, since banks used the money to buy public debt.
Of course all that liquidity will help Spain’s bank defend against an attack on its sovereign debt, but the cost of that defense may be too high. The banks, and the government, are probably hoping that new fiscal controls enacted last week will enable Spain’s central government to clamp down on spending at the regional level.
Such attempts to control spending in Spain’s autonomous regions — Catalan and Andalusia come to mind immediately — have had little success in the past. If the central government does get tough, expect people to hit the streets in large numbers to protest the austerity program.