The Spanish Monetary Nightmare.

It is common among mainstream Media to see the Spanish Economic Depression

as a result of a Bust of its Real State Bubble but, if it was true at the beginning the reality is
that right now, and in the foreseeable future, what really matters to Spain and to the Global
Investors is that this beautiful country is in a Monetary Trap, a trap very different to the one
the economists usually talk.

Believe it or not, all the signs indicate that since Spain joined the Euro the Bank of
Spain (Her Central Bank) does not measure the Money Supply in its territory of
responsibility, perhaps because they think the ECB job is enough. For that reason, if you
look for the aggregates Mo, M1, M2, etc you won’t find them. Consequently, our economic
authorities, in their design of their economic policies, do not care at all to the basic
principles of the Quantitative Theory of Money. As a result of that, my fellow citizens are
suffering three immense and adverse economic enemies: the Bust of the Spanish Real
State Bubble, The International Crisis and Their Own Economic Authorities.

So, let put some figures in terms of the Quantity Theory of Money (QTM) to this
mess created by the dysfunctions of the Doctors Frankenstein teams of the Bank of Spain,
the Spanish Government and the European Central Bank.

According to the QTM, M*V = P*Yr, where M is the quantity of Money, V de

velocity of Circulation, Yr is the real GDP and P the level of prices. But, when inflation is
not the problem what policy makers must care (in addition to financial stability) is to the
Nominal GDP as with it Debt and Capital service, employment and Taxes are paid.

All central banks in the work pay careful attention to this equivalence as it usually
determines the level of inflation depending on the Money Supply (M*V) as the economy
grows. In fact you can easily find for the USA M1, M2, MZM y V or for the Euro area as a
whole see this link Europe M3, but not for Spain.

We, the economists, use different definitions of money in QTM and you can see the
ECB ones in the following link: ECB M definitions. I will use data from the Spanish Central
Bank, the Bank of Spain, to illustrate you these variables and the Trap referred above.

Let see first the Cash in the Spanish Economy: if you check the following chart
you can see the evolution of the amount of cash, which has been practically stable since
2006 when the Global Financial Meltdown hasn’t started yet. The stability of Cash by itself
is not determinant but is indicating certain standstill in the Economic Activity.
 Efectivo en Circulación a final de
120.000
año
100.000

Millones de Euros
80.000

60.000

40.000

20.000

0
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

And, in attention to its effect in Nominal GDP we should also consider the Velocity
of Money (Nominal GDP/M) of this variable:

Ratio (PIB Nominal/Efectivo)

16,0 Is it the
Inflationary
14,0
effect of the
12,0 introduction of
the Euro?
10,0

8,0

6,0

4,0

2,0

0,0
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

It is interesting that with the exception of the introduction of the Euro this factor is
very stable and equivalent to around five weeks of nominal GDP. In terms of Cash Spain
does not seems to have a serious Money Supply problems, so where is the “trap”?!
 To see the Spanish Monetary Trap we have to check a wider definition of Money
and the best available in the data of the Bank of Spain is the Amount of Cash and
Deposits. Here we will see some amazing facts:

Efectivo y Depósitos
E-Depósitos
3.000.000

2.500.000
Millones de Euros

2.000.000

1.500.000

1.000.000

500.000

For the first time in 15 years there has been a reduction in the amount of Cash and
Deposits in the Spanish economy, being in September 2009 a 2% lower than the last data
of 2008. In addition, this contraction coincides with a downtrend in the Velocity of
Circulation of this variable as you can see in the chart below:

Ratio PIB/(Efectivo+Depósitos)
0,80
0,70
0,60
0,50
0,40
0,30
0,20
0,10
0,00
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

Further to this structural restriction to the Nominal GDP we have also another
factors that will destroy money (and employment) To check them we will do it under the
frame of the Macroeconomic Framework of the Aggregate Demand [Y = C + I + G + (X-M)]
and what finances it (Y = C + Si + Sx-m + T), where Y is the Nominal GDP, C is Consume,
I is Investment, G is Public Spending and (X-M) is the Current Account, Si is the local
Saving, Sx-m is the foreign net capital flows and T the taxes. Then, the Fisher Equivalence
of the QTM will be as follows:

C + Si + Sx-m + T = M*V = C + I + G + (X-M)

Spanish QTM Draining Factors:

- (X-M): in terms of the Current Account Balance Spain suffers a structural deficit of
around 5% of GDP that is correcting but will take some time.
- Sx-m: because of its high external debt to GDP Spanish banks have scheduled
strong down payments in their debts with foreign debtors. Something that is an
excellent new from the point of view of their good solvency but that will maintain
serious restrictions to the internal credit and Money Supply.

Of course there are other implications in the equivalence above but they are more
related with large chain of very serious mistakes of economic policy associated with (T-G)
and their implications in terms of employment, public debt and welfare; think that under a
Money Supply restricted any increase of T or G would reduce C creating more
unemployment and more Public Deficit in addition to the produced by the necessary
balances adjustment with their need to increase Si and Sx-m. Perhaps, in the case of a
plan to re-structure some house of savings, if this plan is financed with foreign debt and
these institutions start to create bank money, it could relatively alleviate the asphyxiating
situation of the private sector in Spain.

What is clear is that unless our obese prima donnas of the European Union and the
Frankenstein team ruling the Euro System correct their dysfunctional management, the
possibility that Spain become a Global Systemic Risk is a certainty. We must consider that
if the Spanish trap were properly attended this country wouldn’t have such a Public Deficit
with its financial needs and capital markets pressures and, consequently, much smaller
countries, like Greece, would be able to default their un-payable debt and enter into a
correct and manageable debt situation without a risk of domino effect. I know French and
German banks are concerned about their mistakes in financing Greece but their lobby
gains in Brussels are peanuts and the real problem of the Euro bureau-crazy is not the
Greek clear insolvency.

Is Greece in a similar Trap, and the rest? I do not know, but if She is, all the EU actions
just make things worse and to solve this crucial problems we do not need a European
Monetary Found or a Jurassic EU Financial Mega-Ministry, we just need that our
overpaid bureaucracy just do its job starting by the all the Central Banks, the same
entities that permitted the Credit Bubble that brought the World Economy to its knees. Is it
too late? Will they continue destroying our Economies? Are we all doomed?

Luis Riestra Delgado

03/23/2010 (In Spanish: http://www.elconfidencial.com/tribuna/20100314.html )