NEW YORK (TheStreet) -- Spain is pouring 19 billion euros into troubled real estate lender Bankia, SA. Even with the 20 billion euros in aid already dispensed to financial institutions, this may not avert a run on Spanish banks and economic collapse. Much larger than Greece, Spain could prove beyond Germany and other northern countries' capacity to rescue, and its collapse would spell the end for the euro.Spain's economic crisis did not result from government overspending. Prior to the Great Recession, Madrid's budget was consistently in surplus, and Spain's debt-to-GDP ratio is only 70% -- lower than Germany or France. During the boom years, wealthy northern Europeans rushed to purchase second homes and vacations in Spain's sunny climate, instigating a rush of foreign funds into its banks to finance dwellings and hotels. After the 2008 global crisis, land values fell, and banks were stuck with nonperforming real estate loans. Faced with similar challenges, the U.S. had tools that neither Spain nor the European Union possess. The Federal Reserve pumped some $2 trillion into U.S. banks and financial institutions -- including purchases of many nonperforming and high-risk loans. The European Central Bank has extended long-term credit to banks against mortgages and business loans deemed secure, but it cannot bail out banks with too many nonperforming loans. The ECB can lend money to national central banks, which extend credit to commercial banks against their loans, but if those loans fail, national central banks assume liability. Unlike the Fed and ECB, those can't print money, and their central governments must either tax citizens or borrow euro on international capital markets to make up losses.
Investors, recognizing that guaranteeing Spanish banks is an enormous burden for Madrid to shoulder without a central bank that can print euros, have driven up Madrid's borrowing rates. This has forced draconian spending cuts and deepened the Spanish recession. A terrible negative-feedback cycle has been unleashed -- a contracting economy lessens Madrid's tax revenues, this further engenders investor doubt and even higher interest rates, higher borrowing costs require more spending cuts and those further worsen economic contraction. Depositors, fearing bank failures or a Spanish pullout from the euro and conversion of their accounts into less valuable peseta, could force Madrid to alter strategy by withdrawing funds.