Fiscal adjustment and structural

rebalancing in Spain

December, 2010
• The on-going re-balancing of the economy

• Acceleration of fiscal adjustment

• Finalising key structural reforms

• Funding and Debt Management

1
 Highlights

• Recent developments have driven attention to the challenges

faced by the Spanish Economy
• In the context of the Euro Area response of 9 May, the
Government has reacted by accelerating the implementation of
its planned policy strategy:
• The fiscal adjustment is brought forward, which will take the deficit
down to 9.3% in 2010 and 6% of GDP in 2011 (more than 5 p.p.
cut in two years)
• The on-going rebalancing of the economy is spurred with the labour
market reform and the final push to financial restructuring and reform

Objective ⇨ GROWTH within a strengthened EMU

2
 Real economy adjustment: rapid progress but need to

build further muscle

• The economy is rapidly correcting three major imbalances

caused by excess investment in housing , laying the ground
for healthier growth:
1.Excessive weight of Residential Real Estate (RRE) in GDP
2.Rapid expansion of credit and leverage in the private
sector
3.Current Account Deficit (competitiveness and productivity)
• Short term cost is higher deficit and unemployment
• Policy is tackling the deficit and addressing structural
bottlenecks as a means to kick-start growth and job creation

3
 Tackling Imbalance 1. RRE Downsizing

• Stock of household mortgages: demand for housing services and

store of value ⇨ sound investment (delinquencies below 3%)
• Imbalance: prospective housing supply (600-700 thousand starts in
2006-2007) > trend housing demand (350,000)
• Adjustment: Rapid downsizing of the residential construction sector
which will normalize macroeconomic behaviour going forward
Relative size of the construction sector
(employment over total employment and residential investment over GDP)
15% 13.8%

11.2%
10.4%
10% 9.2%

6.1% 5.8%
5%

0%
2000

2007

Residential Investment 2009

Employment (FTE)

Source: National Statistics Institute, Spain. 4

 Tackling Imbalance 1: dynamics of the adjustment

• Stock of unsold houses (estimated at 700,000) will start to shrink in

2010
• Forecast: change in residential investment will remain negative in
2010 (-20.1%) and 2011 (-5%) taking 1.2 and 0.2 p.p. off GDP
growth

Housing: units started and finished Real house price index

(Index 1996=100)
800 (Thousand units) 220
700 215
600 210
500 205
400 -15.3%
200
300 195
200 190
100 185
0 180
2005

2006

2007

2008

2009

2010
2005

2006

2007

2008

2009

2010

2011

2012

2013

Starts Finished Housing stock

Source: Ministerio de Economía y Hacienda. 5
Source: Ministerio de Economía y Hacienda.
Tackling imbalance 2: Leverage in Corporate Sector

• High leverage was concentrated in real estate and construction

• Corporates have also invested heavily abroad, seizing opportunities
of global markets
Corporate leverage: construction & other Deleveraging process of non-financial
activities corporations
(% of GVA) (% of GDP)
250 2% 12%
10.8%
0% 10%
200
-2%
8%
-0.7%
150 -4%
6%
-6%
100 4%
-8%
50 -10% 2%

0 -12% 0%

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010
2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

Total without construction and real estate

Net Borrowing (-)/Lending(+) (Left axis)
Construction & real estate services Gross Savings rate (Right Axis)

Source: Ministerio de Economía y Hacienda. Source: National Statistics Institute, Spain.

6
Tackling imbalance 2: Leverage in Household Sector

• Debt financed investment, boosting real wealth and reducing

housing expenses
• If residential rent payments are included, the interest debt burden
is moderate
• Deleverage is compatible with moderate consumption growth (net
lending capacity in 2009 € 70.0 billion)
Deleveraging process of households Interest and residential rent payments
8%
14% 12
(% of GDP) 11.1% (% of disposable income)

6% 12% 10
5.9% 10% 8

4%
8% 6
2%
6% 4
0%
4% 2
-2% 2%
0

Germany
-4% 0% UK

Spain
Euro
area

Italy
France
2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

Net Borrowing (-)/Lending(+) (Left axis)

Gross Savings rate (Right Axis) Interest Interest & rent payments
Source: Eurostat and Ministerio de Economía y Hacienda. Source: Eurostat. 7
 Tackling imbalance 2: Credit takes a pause

• Sharp deceleration, led by credit to real estate activities

• Mortgage credit to households starting to peak up
• Credit will gradually approach nominal GDP growth

Loans to non-financial corporations and households Lending to productive activities

(Growth rates, in percent) (Growth rates, in percent)
35 50
30
40
25
20 30
15 20
10 10
5
0
0
-5 -10
-10 -20
2007 2008 2009 2010 2007 2008 2009 2010

Non financial corporations Real estate activities

Households - for house purchase Building
Households - Consumption and others Total without real estate and building

Source: Bank of Spain. Source: Bank of Spain. 8

 Tackling Imbalance 3: Swift and structural Current

account adjustment

• External financing need has gone from 9% in 2007 to slightly above 4% in

2009 most significant progress among high CA deficit countries
• Reflects the shedding of excess investment in housing and relative stability
of the Savings Rate
• Construction has relatively high import intensity and nil export intensity,
and also is intensive in credit
• Rebalancing towards industry and market services will improve the goods
and the income balance
Current Account Balance Adjustment 10 Current Account Balances in EMU
6
2009: 1997: 5
Adjustment (% of GDP)

5 -4.7 +1.2
0
4
-5
3
-10
2 1993: 2nd Devaluation of
the Peseta -15
1 2007: 2004 2005 2006 2007 2008 2009 2010 2011
-9.6 1992: 1st Devaluation of the Peseta
0 Greece Spain France Portugal
1990:
0-3.5 1 2 3 4 5 6 7 Italy Germany Finland
Years sinc e maximun in funding needs vis a vis RoW
Source: Ministerio de Economía y Hacienda, European 9
Source: Ministerio de Economía y Hacienda. Commission forecasts.
 Tackling Imbalance 3: Price and quantity

competitiveness improving

• Exports to the eurozone have resumed growth

• Building on a remarkable hold up of the market share during the
upswing, exports are now reacting to downward pressure on
domestic prices, mark ups and costs
ULCs Indexes relative to the Eurozone Share in world merchandise exports
(Index 2000=100) (Index 2000=100)
115 120
110 110
105 100
100 90
95 80
90 70
85 60

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010
1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

Spain Italy Germany Spain Germany France United States

France Belgium

Source: Ministerio de Economía y Hacienda. Source: International Monetary Fund.

10
 Short term price of rebalancing: unemployment

• Quantity based adjustment, focused in construction and temporary

jobs
• Wages have been sticky, but are now reacting to downward
pressure
• Productivity has jumped as the construction sector shrinks
Employment Labour Productivity
(Growth rates, Full Time Equivalent Jobs) (Index 2000=100)
15% 107

105
0%
103

-15%
101

-30% 99
2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010
2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

Construction Total Spain Euro Area

Source: National Statistics Institute, Spain. Source: Eurostat. 11
 Short term price of rebalancing: deficit

• Cyclical component linked to domestic demand drop and

unemployment benefits
• Discretionary fiscal policy (2.5 p.p. of GDP are one-off)
• Structural component: partly linked to lost revenues from RRE
(Bank of Spain estimates point to 2% of GDP)
Sectoral balances General Government revenues and expenditures
(% of GDP) (% of GDP)
8.0 53
Public Sector Balance 6.0
6.0
Private Sector Balance
4.0
1.9 48
2.0
0.0
43
-2.0
-4.0
-4.2 38
-6.0 -5.0
-8.0
-10.0
33
-12.0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
-11.5 -11.1
-14.0 Revenue, Euro Area Revenue, Spain
2007 2008 2009 Expenditure, Euro Area Expenditure, Spain
Source: National Statistics Institute, Spain. 12
Source: Eurostat.
 Recent trends in total output

• Second quarter of positive growth thanks to private consumption

and external demand
• Recent data point towards further improvement, at moderate pace

National and External Demand Household consumption and Industrial

(contribution to GDP growth) Production
8 10 (growth rates in percent)
5
4 0
-5
0
-10
-15
-4
-20
-8 -25
2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010
2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

National Demand External Demand Household consumption Industrial Production

Source: National Statistics Institute, Spain. Source: National Statistics Institute, Spain.
13
• Highlights

• The on-going re-balancing of the economy

• Acceleration of fiscal adjustment

• Finalising key structural reforms

• Funding and Debt Management

14
 Updated Macroeconomic scenario

• 2010-2011: national demand impacted by the adjustment in the

labour market, the government’s austerity packages and lower
household consumption expenditure
• Growth will be based on external demand and consumption
Macroeconomic scenario 2009-2011 2009 2010 2011
(Growth rate in percent)
GDP -3.7 -0.3 1.3
Final Household Consumption Expenditure -4.3 0.5 1.8
Final Public Consumption Expenditure 3.2 0.6 -1.6
Gross Fixed Capital Formation -16.0 -8.5 -1.5
National Demand (contribution to GDP growth) -6.4 -1.6 0.4
Exports of Goods and Services -11.6 9.3 6.4
Imports of Goods and Services -17.8 3.3 2.9
External demand (contribution to GDP growth) 2.7 1.4 0.9

Main assumptions
Total Employment (growth rate) -6.6 -2.2 0.3
Unemployment rate (in percent) 18.0 19.8 19.3
Net Lending(+)/Borrowing(-) vis à vis RoW (percent of GDP) -5.1 -4.0 -3.4
Sources: National Accounts and Ministerio de Economía y Hacienda 15
 Speeding up public deficit reduction
Measures of May 2010 bring forward planned expenditure cuts and
strengthen the fiscal framework:
• More than 60% of total fiscal adjustment delivered in first 2 years
• Deficit targets robust to:
• Implementation risks, through stronger control mechanisms
• Negative growth surprises, as the Government would then
take additional measures

Fiscal Adjustment Path 2009-2011 2009 2010 2011

Gross Domestic Product (growth rate in percent) -3.7 -0.3 1.3
General Government Budget Balance (% of GDP) -11.1 -9.3 -6.0
Debt/GDP (General Government) 53.2 62.8 68.7
Source: National Accounts and Ministerio de Economía y Hacienda.

16
 All levels of government involved

• According to the European Commission after measures taken in May there

was the need to further specify the consolidation effort to reach -6% in 2011
• The Gap was of 1,75% of GDP
• Up to difference in growth forecast, this gap is closed with:
• Approval of the expenditure ceiling for the central government
• Approval of the budget deficit for 2011 for autonomous regions

Breakdown by Government Unit 2009 2010 2011 2012 2013

General Government Budget Balance (% of GDP) -11.1 -9.3 -6.0 -4.4 -3.0
- Central Government -9.3 -5.9 -2.3 -3.2 -2.1
- Autonomous Regions -2.0 -3.0 -3.3 -1.3 -1.1
- Local Authorities -0.6 -0.6 -0.8 -0.3 -0.2
- Social Security 0.8 0.2 0.4 0.4 0.4
Net of the effect of the liquidation system settlements
Breakdown by Government Unit 2009 2010 2011 2012 2013
General Government Budget Balance (% of GDP) -11.1 -9.3 -6.0 -4.4 -3.0
- Central Government -9.3 -6.7 -4.8 -3.2 -2.1
- Autonomous Regions -2.0 -2.4 -1.3 -1.3 -1.1
- Local Authorities -0.6 -0.4 -0.3 -0.3 -0.2
- Social Security 0.8 0.2 0.4 0.4 0.4
Source: National Accounts and Ministerio de Economía y Hacienda. 17
 Fiscal restraint measures adopted

• Central Government expenditure ceiling for 2011: Approved on 21/07

• Ceiling of € 150.1 billion (122.3 billion excluding autonomous regions

financing system)

• 7.7% reduction with respect to Budget 2010

• Autonomous Regions’ consolidation path Approved on 28/07

• Additional control mechanisms approved in June: Approved on 15/06

• Authorisation for new issuance of debt by Regions conditioned on

semi-annual review of achievement of deficit targets
• Limitation of long-term borrowing for local governments in 2011
Approved by
• Central Government Budget draft Bill Cabinet/parliamentary debate

• Measures aimed at liberalizing different aspects of the economy,

including the labor market, and adjusting elements of the tax
regime Approved on 03/12

18
 Central Government Budget draft Bill

• Approved by the Cabinet on September 24th specifies fully in terms of

policies and departments the reduction in the expenditure ceiling

Main features:
• Non-financial expenditures of the Central Government down 7.9%,
including an average credit reduction for ministries of 16%
• Maximum marginal rate of personal income tax increased by 1% for
incomes between € 120,000 and € 175,000 and by 2% for incomes
over € 175,000
• Housing investment deduction in the personal income tax eliminated
for incomes over € 24,170.2, eliminating the distortion created in the
housing market
• Small and medium size enterprises can apply the special regime in
the corporate tax three years after losing that condition
• Subject to parliamentary debate
19
 New Measures since December 3rd

• As part of the broader economic strategy of the Government the

initiatives approved will facilitate investment and job creation,
especially among SMEs, and will contribute to reinforcing the
Government’s goal of fiscal consolidation
• Measures adopted:
• Full Corporate Tax write-offs for investments to all types of corporations until 2015
• Removal of compulsory fee payments to Chambers of Commerce
• Simplified and streamlined procedures for business creation
• Reduction of the corporate tax rate for SMEs
• Regulation of private placement offices; provision of placement services to the
unemployed by private firms
• Increase in the number of job-placement counsellors
• New Central Government’s Civil servants covered by regular Social Security System
• Partial privatisation of the National Lottery and Gaming Entity (ONLAE)
• Restructuring, enhanced regulation and partial privatisation of the agency
controlling the Spanish Airports, AENA
• Increase in excise taxes on tobacco
20
 Budgetary execution of the Central Government in

line with consolidation plan

• Revenues to end-October: € 118.9 billion (+25.0% yoy)

• Direct and indirect tax revenues register a positive cumulative growth
rates: VAT 44.8%, Excise taxes 2.8%, Income tax 5.4%, Corporate tax
-19.5%
• Expenditures reach € 146.7 billion (-0.3% yoy)
• One-off measures, public investment adjustment, and May extraordinary
measures explain the slowdown compared to the Jan-May period
• Primary expenditure down in September (cuts in Civil Service pay and
public investment.
• Figures are distorted by the different transfer calendar this year implying
a deeper adjustment to materialize during the rest of the year
• The cumulated deficit is € 34.9 billion (-39.5% yoy)
• Cumulated primary deficit at end-September of € -15.4 billion (€ -42.1
billion in end-October 2009)
21
• Highlights

• The on-going re-balancing of the economy

• Acceleration of fiscal adjustment

• Finalising key structural reforms

• Funding and Debt Management

22
 Banking system: Resilient overall, but on-going

restructuring needs to be completed

• Spain’s banking system has withstood the crisis well so far, thanks
to:
• A retail oriented business model with a highly competitive market structure
• Strong systemic institutions with internationally diversified activities
• Rigorous regulation and supervision, implemented by Bank of Spain
• Restrictive approach towards off-balance sheet items and securitisation
• Strict application of prudential regulation
• Countercyclical provisions

• The adjustment to a more challenging environment has revealed

structural vulnerabilities in part of the Savings Bank sector
• Relatively high exposure to real estate developer credit in some entities
• More difficult access to capital markets
• Excess capacity & governance structure
It was necessary to undertake reforms: FROB & reform of

Savings Bank’s regulation 23

 Banking system: milestones of the reform

process and transparency initiatives

• Restructuring process through FROB Finalized

30/06

• Stress tests are an important step providing transparency on the

adequacy of the restructuring process Released
23/07

• Regulatory reform of saving banks was needed to allow adaptation

to new playing field Approved
09/07

24
 Restructuring of Cajas Sector

% of total • 13 restructuring processes

Total Financial
savings Supporting involving 40 out of 45 saving
Entity Assets support
banks' Fund banks
€Million €Million
assets
UNNIM 28,463 2.2% 380 FROB • 5 without any support
DIADA 79,329 6.1% 1,250 FROB • 6 with support up to
ESPIGA 46,351 3.7% 525 FROB
BANCA CIVICA 45,724 3.6% 0 Not requiring
2% RWA
UNICAJA-JAEN 35,155 2.8% 0 Not requiring • 2 liquidations
CAJASOL-GUADALAJARA 31,450 2.4% 0 Not requiring
• FROB conditionality: 25%
BREOGAN 77,480 6.0% 1,162 FROB
CCM-CAJASTUR* 127,267 9.9% 5,268 FROB+DGS of branch closure and 15 to
CAJASUR-BBK 48,726 3.8% 392 FROB 18% of employment
LA CAIXA-GIRONA 260,561 20.3% 0 Not requiring
CAJA MURCIA-GRANADA 72,105 5.6% 916 FROB reduction on average
CAJAMADRID-BANCAJA 337,257 26.3% 4,465 FROB • Extended deadline Dec 31st
CAI-BURGOS-BADAJOZ 20,807 1.6% 0 Not requiring
(recapitalization from stress
Total 1,210,675 94.3% 14,358
Source: Bank of Spain and FROB test)
* Includes €1,493 M from FROB and €3,775 M from DGS

25
 Steps taken in restructuring of Cajas Sector (I)

Major steps in the restructuring processes :

1.) Legal and administrative changes, including the creation of the
commercial banks that will act as the central institution in the SIP
• This stage will be finalised by December 31st 2010 at the latest

2.) Corporate governance and management

• Will be completed by 31 December 2010 at the latest

3.) Operational integration

• In many areas, plans are very advanced (i.e., IT platforms; central
management and control of the economic and financial budget; central
management of liquidity, risk management and commercial activity)

Banco de España’s supervisory teams are closely monitoring these

plans
26
 Steps taken in restructuring of Cajas Sector (II):

Processes with FROB support

RESTRUCTURING
INTEGRATION PROCESSES WITH FROB SUPPORT
PROCESSES
CATALUNYA
PROJECT UNNIM ESPIGA BREOGAN BASE MARE NOSTRUM JUPITER BBK + Ca ja sur
CAIXA
NEGOTIATIONS √ √ √ √ √ √ √ Not a p p lic a b le
INTEGRATION PLAN √ √ √ √ √ √ √ √
APPROVAL IN GENERAL ASSEMBLY √ √ √ √ √ √ √ √
FROB SUPPORT REQUEST √ √ √ √ √ √ √ √
APPROVAL BANK OF SPAIN √ √ √ √ √ √ √ √
APPROVAL BY FROB COUNCIL √ √ √ √ √ √ √ √
APPROVAL BY MINISTRY OF ECONOMY
√ √ √ √ √ √ √ √
AND FINANCE
APPROVAL EUROPEAN COMMISSION √ √ √ √ √ √ √ √
APPROVAL BY CNC √ √ √ √ √ √ √ √
APPROVAL IN GENERAL ASSEMBLY √ √ √ √ √ √ √ √
APPROVAL BY AUTONOMOUS Gov. Ca nta b ria Gov Ca ta luña a nd
√ √ √ √ √ Not a p p lic a b le
COMMUNITY GOVERNMENTS p end ing And a luc ia p end ing
FROB OUTLAY √ √ √ Est Dec 2010 Est Dec 2010 Est Dec 2010 Est Dec 2010 Est Dec 2010
INITIATION OF ACTIVITY √ √ √ Est Dec 2010 Est Dec 2010 Est Dec 2010 Est Dec 2010 Est Dec 2010
Source: Ministry of Economy and Finance.

27
Steps taken in restructuring of Cajas Sector (III):

Processes without FROB support

INTEGRATION PROCESSES WITHOUT FROB SUPPORT

La Ca ixa + Unica ja + Ca ja Ca ja sol + Ca ja

PROJECT
NEGOTIATIONS
INTEGRATION PLAN
APPROVAL IN GENERAL ASSEMBLY
FROB SUPPORT REQUEST
APPROVAL BANK OF SPAIN
APPROVAL BY FROB COUNCIL
APPROVAL BY MINISTRY OF ECONOMY
AND FINANCE
APPROVAL EUROPEAN COMMISSION
APPROVAL BY CNC
APPROVAL IN GENERAL ASSEMBLY
APPROVAL BY AUTONOMOUS
COMMUNITY GOVERNMENTS
FROB OUTLAY
INITIATION OF ACTIVITY
Source: Ministry of Economy and Finance.
BANCA CÍVICA CAJA 3
Ca ixa Girona Ja én Gua da la ja ra
√ √ √ √ √
√ √ √ √ √
√ √ √ √ √
No No No No No
√ √ √ √ √
Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le
Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le
Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le
√ √ √ √ √
√ √ √ √ √
Gov. Ca stilla y
√ √ √ √
Leon p end ing
Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le Not a p p lic a b le
√ Est Dec 2010 √ √ √

28
 The enhanced stress test assumptions in Spain

• Methodology determined by CEBS with the possible scenarios

• Additional coverage and severity introduced by BoS
• 95% of the banking sector
• Special attention to impairment from real estate portfolio
• Conservative assumptions on coverage from Net Operating
Income (NOI)

• Main Figures:
• Macro variables: -2.6% GDP growth
• Finished house prices: -28% from peak. Land and non finished
houses: -61% and -50%
• NOI evolution: -35% to -40% in Saving Banks

29
 Additional severity

• Hypothetical impairment losses are 9.5% for savings banks, similar

to US SCAP (9.1%)

• Against risk-weighted assets SCAP losses were 7.7%, 12.6% for

Spanish savings banks

• This figure compares well to other historical episodes: Finland

(1990-93; 4.3%); Sweden and Norway (1990-93;2.7%); Korea
(1997-99; 11.6%)

30
 Spain’s resiliency
% assets/total system Capital
Nº Group indiv acum needed
1 0049-GRUPO SANTANDER 32,2 32,2 European
2 0182-GRUPO BBVA 15,4 47,6
3 5200 JÚPITER 9,9 57,5
minimum scope
4 5201 CAIXA 7,9 65,4
5 5196 BASE 3,9 69,3
6 0075-BANCO POPULAR ESPAÑOL, S.A. 3,8 73,1
7 0081-BANCO DE SABADELL, S.A. 2,4 75,5
8 5101 DIADA 2,3 77,8 1.032
9 5086 BREOGÁN 2,3 80,1
10 5173 MARE NOSTRUM 2,1 82,2
11 0128-BANKINTER, S.A. 1,6 83,8
12 5051 ESPIGA 1,4 85,2 127
13 5139 BANCA CÍVICA 1,4 86,6 406
14 2085-CAJA DE AHORROS Y M.P. DE ZARAGOZA, ARAGON Y RIOJA 1,3 87,9
15 5150 UNICAJA 1,0 88,9
Spanish
16 0072-BANCO PASTOR, S.A. 0,9 89,8
17 5151 CAJASOL 0,9 90,7 wider scope
18 2095-BILBAO BIZKAIA KUTXA,AURREZKI KUTXA ETA BAHITETXEA (BBK) 0,9 91,6
19 5052 UNNIM 0,8 92,4 270
20 2101-CAJA DE AHORROS Y M.P. DE GIPUZKOA Y SAN SEBASTIAN (KUTXA) 0,6 93,0
21 5202 CAJA3 0,6 93,6
22 2024-CAJA DE AHORROS Y M.P. DE CORDOBA (CAJASUR) 0,5 94,1
23 0061-BANCA MARCH, S.A. 0,4 94,5
24 0042-BANCO GUIPUZCOANO, S.A. 0,3 94,8
25 2097-CAJA DE AHORROS DE VITORIA Y ALAVA (VITAL) 0,3 95,1
26 2045-CAJA DE AHORROS Y M.P. DE ONTINYENT 0,0 95,1
27 2056-COLONYA - CAIXA D'ESTALVIS DE POLLENSA 0,0 95,2
Source: Bank of Spain
31
 Saving Banks:

Features of the regulatory reform

z Demystifying Saving Banks:

z Major force in extending services and in creating a highly competitive environment and
significant driving force for growth, savings, allocation of resources and financial inclusion
z Support for social, cultural and educational projects
z Subject to the same supervisory and prudential regime applied to all credit institutions

z But new context required a reform of the law

z Higher future capital requirements both in quantity and in quality
Need for greater flexibility in access to capital resources

z Growing complexity of financial activity has also reached saving banks,

traditionally focused on a retail-oriented business model
Need to make corporate governance more professional and
transparent in line with corporate governance of banks

32
 Saving Banks (1): Better Corporate Governance

• More professional management

• New requirements on knowledge and expertise are included regarding
control functions, directors and managers
• Establishment of a new Appointment and Remuneration Committee
• Better representation of all stakeholders
• Prohibition of elected positions and high level officials to be members
of governing bodies
• Dispositions on conflicts of interest have been included
• Ceilings on the voting shares for public entities reduced from 50
percent to 40 percent
• Establishment of a new Social Duties Committee
• Enhanced transparency
• Establishment of the obligation to publish an annual report on

corporate governance

33
Saving Banks (2): Strengthening the ability to raise
capital

Four alternatives to improve their ability to raise capital:

1. Maintain their existing saving bank structure, with widened
possibilities to issue preferred stock with political rights
2. Integrate part of their structure in a consolidated group
(which is a Bank)
3. Transfer its financial activity to a bank in which they hold a
majority stake
4. Transfer their financial activity to a commercial bank in
which they will have a non majority stake and transform into
a foundation

34
 Labour market reform: Four major objectives (1)

• Objective 1: Achieving a closer relationship between working

conditions and the specific situation of the firm
1. Effective opt out from collective bargaining if there is agreement among
employer and workers (arbitrage possible in case of disagreement)
2. Reasons for objective dismissals are clarified and procedures simplified

• Objective 2: Reducing segmentation

3. The “contrato de fomento” is generalized and a capitalization fund for
dismissals, formation, mobility or retirement will be developed
4. Temporary contracts termination payments will be increased smoothly
from 8 days per year to 12 in 2015 starting in 2012

35
 Labour market reform: Four major objectives (2)

• Objective 3: Improve matching in the labour market

5. Temporary Agency Work Directive will be transposed, eliminating
current restrictions
6. Private for-profit employment Agencies will be authorized to operate

• Objective 4: Enhancing human capital

7. Eligibility for training contracts is extended
8. Social Security rebates will be applied preferentially to unemployed
unskilled workers up to the age of 30 and over 45
9. Short time working arrangement that favours the reduction of hours as
opposed to dismissals as margin of adjustment

36
 Labour market reform: Current status

• Approved on 16/06, fully in place

• Approved by congress already and pushes further some of the objectives:
• Ensuring the effectiveness of opt out clauses both for wages and
working conditions
• Objective dismissals can be justified with forward looking reasons and
liquidity problems, not only realised losses
• Improving legal certainty for companies
• Fine tuning new legislation for small firms
• Further generalization of the “contrato de fomento”
• Active labour market policies enhanced.

37
 Other upcoming and passed reforms: services

• Substantial reduction of administrative burdens on professionals

• Red tape associated to ex-ante supervision by professional
organizations (“colegios”) is greatly reduced
Approved
• Freedom of election of supervisor 30/07
• The reform will save 815M€ a year for professionals
• New regulation on professional services
• The government is planning a comprehensive revision of restrictions
hampering provision of professional services
• The reform could push long term growth of potential GDP by 0,7%
• Restrictions on entry will be greatly reduced
• More freedom to operate and competition among professionals
• Effective protection of consumers with less burdens on entrepreneurs

38
 Upcoming reforms: Pension reform

•The current financial situation of the Social Security System is sound:

• The recorded surplus until June 2010 was 0.9% of GDP
• The Social Security Reserve Fund cumulated assets by 6% of GDP
until June this year
•But ageing makes necessary a reform. The Government made a
proposal in Jan 2010. Main measures included were:
• An increase in the statutory retirement age from 65 to 67
• Reinforcing the relation between contributions and benefits
• A more flexible relationship between complementary social security
and the public system
• Possible adjustment of other parameters of the current system
• Current debate in Parliament

39
• Highlights

• The on-going re-balancing of the economy

• Acceleration of fiscal adjustment

• Finalising key structural reforms

• Funding and Debt Management

40
 Debt management has proved to be resilient to

challenging market conditions

• Low debt to GDP outstanding provides a strong starting

point
• Transparency and predictability are highly valued by
investors
• Lengthening of average life of debt outstanding remains an
objective
• A solid and diversified investor base despite the harsh
developments in markets in the second and fourth quarters
• Intensified fiscal adjustment commitments

41
 Low Debt as a starting point

• With 53,2% at end 2009, Spain’s debt to GDP is among the lowest
of major Western Economies
• A lower debt burden provides resiliency in terms of interest
payments and refinancing needs
Debt to GDP ratios Interest Expenditures
140% 6% (% of GDP, EDP)
120% 5%

100%

4%

80%

62.8% 3%
60% 53.2% 2.2%
39.8% 1.8%
2% 1.6%
40%

20% 1%

0% 0%
2008 2009 2010 2008 2009 2010

Italy Ireland Portugal France Italy Ireland Portugal UK

UK Germany Spain France Germany Spain

Source: Eurostat. Source: Eurostat.

42
 Robust Treasury Management System

• Issuance schedule based on very conservative assumptions

about budget execution
• Payment dates (redemption and coupons) are set to coincide
with biggest inflows of tax revenues
• Liquidity lines with banks
• Excess liquidity is lent in the money market each day
through a monthly auction
• Transparency: regular and publicly available information
about budget execution, change in cash balance…

43
 Funding programme executed

at the pace initially planned

• No redemption of bonds in the remaining of 2010

• Auctions resilient even under stressed market conditions:
unchanged average ratio of demand to supply volumes

Funding programme completion

250
208.4
195.4 Bid to cover ratios in auctions
200
BONOS RATIO DE
AÑO LETRAS Y COBERTURA
150 OBLIGACIONES MEDIO
114.4 106.4
94 89 1999 2.41 2.35 2.38
100 2007 2.16 2.29 2.22
2008 1.66 1.70 1.68
50 2009 2.15 1.89 2.02
2010 2.31 1.95 2.13
0 * Up to November 24th 2010
Source: Dirección General del Tesoro y Política Financiera.
Gross issuance T-bills Medium and

long-term

Objective Issuance
Source: Dirección General del Tesoro y Política Financiera.

44
 Funding programme outlines

Short term:
• 3- and 6-month Letras auction 4th Tuesday of every month
• 18-month and 12- month T-bills auction 3rd Tuesday of every month

Medium and long term:

• Auction procedures: Quarterly calendar + potential off-the-run lines
announced Friday prior to the auction
• Limit size per line: increased to 16.5 bn € for longer lines

Other funding sources:

• Tesoro Público is open to additional foreign currency issuance
• Floating rate notes have provided in 2009 and 2010 an additional funding
source
• Private placements

Projects:
• European inflation-linked issues (HICP-ex tobacco)
• Schuldschein loans
45
 A harshly tested stable investor base

• Non-residents have been cautious in H1 2010, with domestic real money investors
increasing their demand
• Strong response from Real Money non-residents in July 10 year syndication shows
confidence in Spain's credit
•The limited and temporary portfolio rebalancing between domestic investors and
non-residents in H1 demonstrates the resiliency of the Spanish market
Government Bonds by Holder
(Term investment, % of total portfolio)
100%
Spanish official
90% institutions
33.37%
80% Non residents
70% 47.0%
60% Households &
Non financ.
50%
Pension & Mutual
40% Funds
30% Insurance
20% Companies

10% Credit Institutions

0%
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010* *As of Octob er 31st

Source: Dirección General del Tesoro y Política Financiera. 46

 The investor base has remained stable

• The geographical distribution of holdings of government bonds has remained

relatively stable during the last two years
• An exception is the category depicting Asia, Africa and the rest of the world

Geographical distribution of non-resident holders of

government bonds
(Term investment, % of non-resident portfolio, 31st October)
30%
2007 2008 2009 OCT 2010*
25%

20%

15%

10%

5%

0%
BENELUX

America
Germany

Italy
France

Japan

Rest of EU

Asia, Africa and

Rest of Europe
others

Source: Dirección General del Tesoro y Política Financiera.

47
 Debt Management going forward

Strengthen our ability to sail in troubled waters:

• Continue lengthening average life of debt outstanding, with rates still at
relatively low levels
• Support the normalization of market functioning through transparency and
predictability
• On-going engagement with our investor base to update on the
implementation of policy strategy and economic and budgetary developments
10 year yield and spread vs Bund Cost of debt outstanding and cost at issuance
250 6.0 6.0 (in percent, up to October 31st 2010)
225 5.5

200
5.0
5.0 4.5
175
150 4.0
125 4.0 3.5
3.53 3.60
100 3.0
75 2.5
3.0 2.0 2.44
50 2.15
25 1.5
0 2.0 1.0
2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010*
Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov-10

Spread vs Alemania (Izqda)

Obligación 10 Años (Dcha.) Cost of Debt outstanding Cost at issuance 48

Source: Bloomberg. Source: Dirección General del Tesoro y Política Financiera.

 Objective: Lengthening average life

• It has increased thanks to reduced issuance of bills and focus on

medium and long term supply
• Even if it entails higher cost, risk management means longer is still
better
• Further effort to achieve additional lengthening of average life
Duration & Average Life to Maturity of the Average life to Maturity
Portfolio (T-Bills and medium and long-term euro-denominated debt)
8
(Letras, Bonos and Obligaciones) (in years)
8.0 7.80
(in years)
7 6.74 7.5
6.52 6.93
6 5.52 7.0 6.74 6.74

6.5 6.28 6.18

5 4.66 5.88
6.0 5.84
4.54
4 4.16 5.5
5.0
3

Belgium
Germany

Netherlands
Spain
Austria

Italy

Portugal
France
2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010*

Duration Average life

*As of October 31st 2010 49
Sources: Dirección General del Tesoro y Política Financiera Bloomberg.
 bn €

10
20
30
40
50
60
70
80
2011
2012
2013
2014
2015
2016
2017
2018
2019
2020
2021
2022
2023
2024
2025
Principal

2026
2027
2028
2029
2030
2031
2032
2033
Interest

2034
2035
2036
Maturity Structure of Medium and Long-Term Debt

2037
2038
2039
2040
2041
2011-2041 Redemptions and interest payments

50
 Risk measures

• Refinancing risk remains subdued due to lengthening of average life

• Redemptions of Euro-denominated debt remain well in line with
those of peers
Maturity profile Redemptions in 2011
debt. 2011-2020 (% of 2010 GDP estimate)
(% of Euro-denominated debt outstanding)
25% 20%
17.6%
15.8% 15.6%
20% 16%
12.6%
15% 12% 11.0%
9.0%
10% 8%
5%
4%
0%
0%

2011

2012

2013

2014

2015

2016

2017

2018

2019

2020

Belgium

Germany
Spain
Italy

Portugal

France
Spain France Germany Portugal Italy Belgium

Source: Bloomberg Sources: Bloomberg. Eurostat.

51
 Thank you for your attention

Soledad Núñez – General Director of the Treasury and Financial Policy

DirectorTesoro@tesoro.meh.es

Ignacio Fernández Palomero – Deputy Director for Funding and Debt Management
ifernandez@tesoro.meh.es

José Ramón Martínez

jrmartinez@tesoro.meh.es

Rosa Moral
rmmoral@tesoro.meh.es

Leandro Navarro
lnavarro@tesoro.meh.es

Pablo de Ramón-Laca
pramonlaca@tesoro.meh.es

Ignacio Vicente For more information please contact:

ivicente@tesoro.meh.es Phone: 34 91 209 95 29/30/31/32 - Fax:34 91 209 97 10
Reuters: TESORO
Rocío Chico
Bloomberg: TESO
mrchico@tesoro.meh.es
Internet: www.tesoro.es

52