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THE DAILY TELEGRAPHMONDAY, JULY 23, 2012 B4 |

BUSINESS |

HE financial credibility of Spain is close to zero. Fiscal credibility is zero. Political credibility is zero. The new government of Mariano Rajoy has squandered

the advantages of its absolute majority in a matter of months, and completely lost the confidence of Europe’s institutions.

That is the verdict of unnamed EU officials and sources in Brussels cited by El Pais, following the twin crash of the Madrid bourse and the Spanish bond market on “Black Friday”.

The claims are self-serving spin by Europe’s incompetent policy elite. Once again, they are blaming the victim for the consequences of their own scorched-earth monetary, fiscal, and regulatory policies.

The reason why Spain is spiralling into deeper depression is because EMU policy settings are contractionary.

The European Central Bank caused the Spanish money supply to collapse last year by tightening policy. Real M1 money was falling at double-digit rates by mid-2011. The economic damage we are seeing now was baked into the pie.

Fiscal policy has since become maniacal. The latest EU-imposed cuts, passed by the Cortes on Thursday as a condition for Spain’s €100bn (£77bn) bank rescue, entail further tightening of 6.7pc of GDP over three years. It is ruinous for an economy already contracting, with unemployment of 24.3pc, in the grip of ferocious deleveraging by firms and households.

We can argue about the deeper causes of Spain’s crisis. It had little to do with fiscal policy. Spain ran budget surplus of 2pc of GDP in 2006 and 1.9pc in 2007. Public debt fell to 42pc of GDP.

What destabilised Spain was a private credit boom. The country was flooded with cheap capital from North Europe. Interest rates were minus 2pc in real terms for Spain for year after year. The ECB poured petrol on the fire by gunning the eurozone M3 money supply at twice its target rate.

We all agree that it was folly to build 750,000 homes each year at the top of the boom – La Burbuja – for a market of 250,000. Spain should have copied Hong Kong and others with a long experience of fixed exchange rates in forcing down the loan-to-value ceilings on mortgages to 70pc, 60pc, 50pc etc, to choke the boom.

While that is obvious in hindsight, it is not what the EU authorities told Spain at the time. The EU was complicit in the Spanish bubble, and so were German banks. This is a collective failure.

Mariano Rajoy has doubtless made a mess of the crisis since taking power, but that is a detail in this greater drama. He is right to claim that Spain has “done its part” in cutting to the bone, even if he is tragically misinformed in thinking that this is what global markets want. What investors really want is a way out of the deflationary impasse.

The reason why Spain’s €100bn bank rescue has failed to stem the crisis is because the EU summit deal in late June has proved to be a sham. It did not break the deadly link between banks and

sovereigns, as originally claimed. Germany now says it never agreed to such a deal. The law passed by the Bundestag last week states clearly that the Spanish sovereign state is solely responsible for the extra debt. Spain’s public debt will gallop up to 90pc of GDP this year.

Spain’s foreign minister, José Manuel García-Margallo, accused the ECB of “doing nothing to put out the fire”. The ECB’s Mario Draghi retorted that it is not the job of his institution to sort out the finances of EMU states. Its task is to ensure “price stability”.

Actually, the ECB is currently in breach of Article 127 (clause 5) of the Lisbon Treaty obliging it to contribute to “the stability of the financial system”. The first duty of every central bank is to avert disaster.

It is time for Spain and the victim states to seize the initiative. They cannot force Germany, Holland, Finland, and Austria to swallow eurobonds, debt-pooling and fiscal union, and nor should they try since such a move implies the evisceration of their own democracies.

What they can do is use their majority votes on the ECB’s Governing Council to force a change in monetary policy. Germany has two votes out of 23, with a hard core of seven or eight at most. The Greco-Latin bloc can force a showdown. If Germany storms out of monetary union in protest, that would be an excellent solution.

The Latins would keep the euro – until the storm had passed – allowing them to uphold their euro debt contracts.

There would be less risk of sovereign defaults since these countries would enjoy a pro-growth shock from monetary stimulus and a weaker Latin euro against the Chinese yuan, the D-Mark, and the guilder.

The currency misalignment eating away at EMU would be cured instantly. There might even be a stock market rally once the boil was lanced. It would certainly be a better outcome than the current course of deflationary Troika regimes and loan packages for economies trapped with the wrong exchange rate, destined to end with one country after another being thrown out of EMU in a chain reaction.

For Germany it would entail a revaluation shock and stiff losses for German banks and insurers with holdings of Club Med debt.

If Germany wished to soften the blow, it could do exactly what Switzerland is now doing by holding the Swiss franc to Sf1.2 against the euro. It could fix the D-Mark rate against the Latin euro at whatever was deemed bearable, for as long as needed.

Is Mr Rajoy willing to entertain such heresies? Or Italy’s Mario Monti, after a life committed to the euro Project? Or France’s Francois Hollande, still in thrall to Quai d’Orsay orthodoxies and the strategic primacy of the Franco-German alliance – now just a mask for German hegemony?

Yet a full-fledged “rescue” of Spain is already on the cards. It will cost €400bn, bringing matters to a head swiftly. Contagion to Italy seems inevitable, with knock-on effects for French banks with €600bn of bank exposure to Italian debt. The EU bail-out machinery becomes irrelevant in such a conflagration.

The Latin Bloc are all too aware of this awful prospect, even if the latest safe-haven flows into France may tempt some in Paris to misjudge the dangers.

They dallied with revolt in June, only to be rebuffed by Berlin. It is time to sharpen swords for a real fight.

Ambrose Evans-Pritchard

Comment on Ambrose Evans-Pritchard’s view at >>

telegraph.co.uk/finance

Continued from B1

(£31m). Its name and location is available only on request to trusted clients – the sale is subject to a confidentiality agreement imposed by its “very well-known owner”, Mr Vladi said.

The next most costly is a 43-acre island called Buck in the British Virgin Islands, on the market for €30m (£23m).

The sort of people who can contemplate the ultimate fan-tasy of owning their own island are largely immune to the vagaries of the world economy, Mr Vladi said.

“Our clients are largely resistant to the turbulence in the markets,” said Mr Vladi, 67, who was born in Germany but now has Canadian citizen-ship and describes himself as “a seller of dreams”.

“The price of islands that I call ‘adventurous’, because they have no infrastructure or they are difficult to reach, has dropped, but there is a very strong market for quality islands with good facilities. They are recession-proof,” he told The Daily Telegraph from Novia Sco-tia, where he was showing an island to a prospective buyer.

Among the golden rules for clients – check how accessible

the nearest hospital is, partic-ularly in the case of older buy-ers; make sure there is plan-ning permission; and be sure of the deed of ownership.

His customers include Larry Ellison, the CEO of Oracle, who bought a large chunk of Lanai island in Hawaii, and Bernard Arnault of Louis Vuit-ton, who chose an island in

the Bahamas and recently sold it on to the Aga Khan.

Other celebrity island own-ers include Johnny Depp, whose Little Hall’s Pond Cay is in the Bahamas; Mel Gibson, who bought a speck of tropical paradise in Fiji; and Sir Richard Branson, who bought Necker in the British Virgin Islands in 1978 for a few hun-dred thousand dollars.

While the Greek government is under pressure to sell state-owned assets like islands, the market is sluggish, largely because of bureaucracy.

Star location: actor Mel Gibson is among island owners, with a tropical hideaway in Fiji

THE Energy select committee pulls few punches in its assessment of the draft Energy Bill today.

The “Energy Market Reform” legis-lation is supposed to move Britain “to a secure, more efficient, low-carbon energy system in a cost-effective way”. But, in a scathing 82-page report, com-mittee chairman Tim Yeo MP and his colleagues conclude that the Bill risks doing the opposite.

“The proposals in the Government’s draft Energy Bill could impose unnec-essary costs on consumers, lead to less competition and deter badly needed investment,” they warn.

The report dissects the fiendishly complicated legislation, highlighting a litany of design faults.

But it also offers a diagnosis as to why ministers have produced such complex and flawed policy: because they have designed it to accommodate the awkward demands of new nuclear.

The cornerstone of the reforms is the proposal to establish a “Feed-in Tariff with a Contract for Difference (CfD)” – a mouthful of a name that belies a simple concept. Ministers want investors to stump up billions of pounds to build low-carbon power

generation, such as nuclear reactors and offshore wind farms, but the eco-nomics and risks of such projects may not stack up. So it will create long-term contracts setting a price for the power they generate – guaranteeing returns and so stimulating investment.

“There is a great deal of merit in the idea of CfDs,” the committee finds. “But the implementing arrangements have become so complex that the pro-posal has now arguably become unworkable.”

The committee has stoked tensions within Government by pointing the finger of blame at the Treasury. Inves-tors thought the CfD would be “guar-anteed by the state – therefore lower-ing the cost of capital”. “But the Treasury has apparently intervened to ensure that the contracts are not Gov-ernment guaranteed”.

Energy ministers were left to draw up a complicated substitute, called a “synthetic or virtual counterparty”. Unfortunately, the committee found, this would not be “bankable”, might be “neither legally enforceable, nor creditworthy” and was considered by many to be “uninvestable”. So the committee is calling on the Govern-ment to do as investors want: to “use

its AAA-credit rating to underwrite the new contracts in order to keep the costs of energy investment down for consumers”.

But while there is clearly no love lost between the committee and the Treas-ury, today’s report nevertheless acknowledges the problem may not be so simple. There may be good reason why the Treasury has not backed the contracts: because overt Government support for nuclear power could fall foul of EU state aid rules. The EU is unlikely to object to the simple system of subsidies investors want when it comes to renewables, but it may take a dim view of subsidies for nuclear. Nuclear bundled up with renewables, and distanced from direct government backing, however, has a chance of get-ting through.

Politically, it would also be difficult to offer a separate regime for renewables, because the Coalition agreement dec-reed there would be no subsidies for new nuclear that were not also available to other low-carbon generation.

“State aid as well as political consid-erations have influenced the design of the CfD package, and have caused policy and financial support for nuclear to be rolled up with that for renewa-

bles,” the committee concludes. In other words, the MPs appear to share what they describe as “widespread perception that [Electricity Market Reform], and specifically CfDs, are a fig leaf over support for new nuclear”.

How the Government resolves the problems with CfD remains to be seen. Ministers are spending the summer consulting on redrawing the contracts and will have their work cut out to jump the state aid hurdles and mollify investors.

Whether or not they succeed, what is clear is that they have already gone to great lengths to try to facilitate new nuclear.

And, it appears, that is ringing alarm bells in the committee about what a high price they may be willing to pay to achieve their nuclear dream.

But the alternative to overpaying may be just as galling for ministers. The committee says the Government should also be considering how it can meet its low-carbon and energy secu-rity needs “if no new nuclear is forth-coming”. In effect, it is suggesting, ministers should be preparing for the possibility they will end up with a policy predicated on new nuclear – and still no nuclear to show for it.

High price: the committee risks stoking tensions within Government over state aid which it says is designed to facilitate new nuclear plants like Sizewell in Suffolk

ROD EDWARDS/ALAMY

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