IMF Publishes Report on Spain as Expected, Paints Bleak Outlook

As if Spain needed any more bad news, the International Monetary Fund (IMF) published its much-anticipated review of Spain Friday, painting a bleak outlook for the future of the Spanish economy. In its report, the IMF expects Spain's economic contraction to deepen and continue for longer and sees debt-to-GDP increasing drastically over the next few years.

The IMF did note that recently agreed spending cuts and tax increases should put Spain back on track to meet 2012 and 2013 deficit targets, however more needs to be done to meet targets for 2014. The IMF sees Spanish GDP contracting 17 percent in 2012 and 1.2 percent in 2013, worse than previous estimates. Also, the IMF sees Spain's debt-to-GDP climbing to 97.3 percent by 2015, above the 90 percent threshold described by economists Ken Rogoff and Carmen Reinhart as the limit before debt becomes a drag on growth.

Also, the economists at the IMF predict that the Spanish banks' ability to generate new collateral is weakening. If the banks cannot generate collateral, they cannot get cheap cash from the ECB and face a liquidity crunch. Lastly, and potentially, most importantly, the IMF warns that existing collateral could face further downgrades, which would force the ECB to take losses, something that they have been reticent about since the Greek debt swap.

The news is not good for Spain, which has seen sentiment improve over the last few days on hopes of the ECB stepping up easing plans. Spanish bond yields rose slightly from multi-day lows on the release of the data, however many shrugged off the news as already priced in. Many already know of the economic plight and Spain and this data is not new news to them.

Many investors may even shrug off this news expecting the ECB and the other European authorities to intervene in sovereign bond markets. This hope has seen yields on Spanish bonds fall from record highs and yields on Italian bonds fall from post-LTRO highs. Should European leaders step up efforts to aid peripheral nations, it may see the IMF once again revise its outlook for Spain, this time for the better.