Poison lingers from Spain's property binge

 

Valencia's dazzling City of Arts and Sciences, with its glazed domes, turquoise pools and cloistered pathways, was built by the regional government during Spain's boom years of easy money and uncontrolled building.

Now the centre, inaugurated in 1998, is a monument to a disastrous construction lending spree that has crippled Spain's banks and threatens to undermine government efforts to avoid insolvency as the euro zone debt crisis deepens.

The complex, encompassing an opera house in white ceramic mosaic, a planetarium and Europe's biggest aquarium and partly financed by unlisted regional banks, or 'cajas', made losses of 51.2 million euros in 2010, with debts of over 700 million euros at end-December.

Unsustainable lending to private developers, government and individuals was the hallmark of Spain's decade-long property boom, fuelled by ultra-cheap interest rates after the country joined the euro zone in 1999.

Cajas were at the front line of the credit binge. These lenders were first set up hundreds of years ago to tide over farmers at times of poor harvest, with a remit to donate some of their profits to charitable works.

Many were used by local politicians to fund pet projects and morphed from modest provincial lenders to real estate speculators. In recent years, cajas made up about half the country's banking system.

"Those that were well-run were very cautious and didn't get their fingers burnt," says Charles Powell, history professor at CEU-San Pablo University.

"Others were outrageously generous, probably because political priorities weighed more heavily than business concerns."

ONE OF THE BURNT ONES

Caja de Ahorros del Mediterraneo (CAM), a 135-year-old Valencia-based savings bank, was one of the profligate ones.

CAM sits in a moderately sized Spanish region - Valencia is home to around 5 million people - but it financed grandiose projects like the Terra Mitica theme park in the coastal resort city of Benidorm, which emerged from receivership in 2006, and opened offices in Shanghai, Miami and Geneva.

When the government slashed the number of savings banks by more than half last year and forced them to take on private investors or face nationalisation, CAM was one of those that failed to generate interest because of its real estate losses.

On taking the caja over in July, the government found much bigger losses than expected. It also found that CAM directors and their equivalents at fellow failed savings bank NovaCaixaGalicia had awarded themselves multimillion euro severance pay packages while racking those losses up.

Union data shows the pay packages of CAM directors increased more than sixfold over the 2004-2010 period, while profits grew 3 percent over the same period.

Five directors at CAM got payouts of 12.8 million euros in total, while three top staff at NovaCaixaGalicia got 23.6 million between them, press reports say.

Both banks were bailed out with public money.

"There has been an embezzlement of public funds destined to bail out the bankrupt cajas," said the speaker of the United Left party, Gaspar Llamazares.

The reports shocked Spaniards suffering the highest unemployment amongst industrialised nations - 1 in 5 is out of work - and the threat of deep cuts in health and education.

CAM director, Maria Dolores Amoros, was fired and put under investigation for falsifying accounts.

Roberto Lopez, a former director at CAM, had to leave an Alicante tennis club in October after people booed and shouted insults at him, according to a local paper.

"It is an absolute disgrace that the managers of the bankrupt cajas should receive such massive bonuses," says Jose Luis Corell, lawyer and bankruptcy expert, at a cafe outside Valencia's 17th century basilica.

Bank of Spain Governor Miguel Angel Fernandez Ordonez called the behaviour of the CAM executives "scandalous" and said the bank was "the worst of the worst" at a press conference in September.

GREED DESTROYED NEIGHBORHOOD

One casualty of the real estate debacle can be found in the communities that were supposed to have been torn down to make way for new developments and instead have fallen into blight.

Up the coast from the City of Arts and Sciences in Valencia, for example, lies the Cabanyal district, which was due to make way for a highway extension lined with apartment blocks under city council plans drawn up at the height of the property boom.

Residents complain how the boom blinded politicians, banks and investors to everything but the allure of fast cash from property taxes and ever-rising house prices.

"The plans were an outrage, because they were going to pull down a unique kind of architecture to make a road and a neighbourhood like any other," says 39-year-old artist Bia Santos standing in the central patio of her tiled house.

Cabanyal was placed on the World Monuments Fund watch list as a threatened cultural site in October.

Charitable donations -- a percentage of cajas' profits go to help everyone from battered women to homeless people - have dried up.

"The social donations from the cajas have declined greatly, in some cases they have practically disappeared," said Jaime Valcaneras, the director of Caritas charity in Alicante.

BAD PRACTICES

The mismanagement at the heart of the problem continues today, resulting in practices that have kept real estate prices artificially high and masked the bank's losses, market participants said.

After the property collapse, banks and cajas wrote off loans to bankrupt real estate developers in return for taking on their portfolios of unsold properties, which allowed the lenders to avoid registering losses on their own balance sheets.

Now those banks, lumbered with huge real estate assets, will not give mortgages unless the buyers buy the properties from the banks themselves.

This has strangled the market and kept prices artificially high. Property prices that rose 155 percent during the boom have fallen just 22 percent in the bust, consultancy Spanish Property Insight says. Meanwhile the market shrank 40 percent in August from last year, official data showed, with 2011 registering the lowest number of housing market transactions since the bust.

"Now the banks have got the property and the money and they only provide funding for their own properties," said real estate agent Vicente Beltran, sitting in his modern offices near the City of Arts complex.

"This is throttling the real estate market on all levels," he added.

Banks will continue to refinance developers to avoid registering a loss, said bankruptcy lawyer Corell.

"I am in the frontline of refinancing processes and I see every day that banks will not accept the reality of the problem until they have no choice," he said.

The Bank of Spain reported banks and cajas had 176 billion euros of potentially troubled exposure to construction and commercial real estate as of the end of June, which is over half of banks' total exposure to real estate development and equivalent to around 18 percent of Spain's gross domestic product.

If more of these fall into arrears, they could end up draining billions of euros in additional rescue funds from the government.

October's Europe-wide recapitalisation programme for banks did not include real estate exposure.

The centre-right People's Party (PP), forecast to take power with a sweeping majority in November elections, has said it will force banks to write down real estate assets to restore credibility to the financial system.

"An adjustment in valuation is essential to restore credibility and confidence to the system," said Luis de Guindos, director of IE business school in Madrid and widely tipped to be the next economy minister.