“Allo, Don Enrique?”

Two weeks, Robert Zoellick, the outgoing president of the World Bank, advised European leaders to “break the glass” and get into emergency salvage mode.  A less violent option, but one that would likely be just as effective, would be to make a single phone call.

By that I mean calling former Tresaury Secretary Hank Paulson, granting him dual US and Spanish citizenship and offering him the job of Secretario de Hacienda of the Kingdom of Spain.

The latest saga of the Spanish banking sector bailout was in line with previous efforts: vague, not definitive and indefinite as to the timeline. 

The Spanish government hired two consultants to assess the banking sector’s capital needs.  Two scenarios were considered, a central one and a stressed one.  This move was precipitated by the very poor handling of the Bankia bailout so far. 

The results are in.  Under the base scenario, the banking system would need €16 to €25 billion; under the stressed one it would need €51- €62 billion.  This is to compare with the IMF estimate of at least €40 billion and the Eurozone members agreement to make available of up to €100 billion. Oh, one last point, Spanish sovereign debt was to be a non factor in this study, a pretty big fudge if there was one.

So, what then?  Well, not much really.  The two government officials presenting the results repeatedly referred to the consultants'  as an “exercise” and pointed out that under the central scenario there was no need for capital injection.   Put it another way, if the sun keeps shining, there is no need to buy an umbrella.  Later, and confusingly, Bankia announced that it would not need any public money even under the stressed scenario (presumably, non-Spanish governments' money is not public money).

There was also no immediate call for action.  The top three banks, BBVA, Santander and la Caixa, didn’t need more capital under either scenario according to one of the consultants.  The Spanish government stated that the problems were limited to the banks it had seized, that their auction would be postponed and that there likely would be no bank closing as this was deemed too expensive an option.  The recapitalization numbers were not broken up by bank.  Bank-specific audits would be released by September 30.  Then banks would submit their recapitalization plans, and those that could access the markets (in whose judgment?) would be given up to one year to comply.  In other words, the sector recapitalization could extend into late 2013 before it was completed!

If this feels like a trip to Alice in Wonderland, it is because it is.  It is also an accident waiting to happen.

Knowing what they know today, I am sure that Secretary Paulson (and the Fed) would handle the Lehman crisis differently.  But one weakness that Sec. Paulson doesn’t have is being wishy-washy.  In 2008, as panic gripped the US markets, he swiftly convinced the President and Congress to recapitalize our tops banks with government money.  He then proceeded to impose his decision on bank managements in one afternoon.

A few months later under the Obama Administration, credible stress tests were conducted on the top US banks, the individual results were made public and the banks wasted no time announcing voluntary recapitalizations.  Over the 2008-2009 period, several very large banks were closed and/or sold to financially solid competitors.

Having waited too long, Spain is now in a difficult position and needs outside help to shore up its banks.  However, having admitted to weakness, Spain should take prompt and forceful action.  Such decisiveness might even improve the terms of the bank bail out, making it more convincing and effective.  I don’t know how good Sec. Paulson’s Spanish is, but I think it is good enough.  Make the call!