Spain's sickly economy faces a
"crisis of huge proportions", a minister said on Friday, as unemployment hit its
highest level in almost two decades and Standard and Poor's downgraded the
government's debt by two notches.
Unemployment shot up to 24 percent in the first quarter, one of the worst
jobless figures in the developed world. Retail sales slumped for the
twenty-first consecutive month as a recession cuts into consumer spending.
"The figures are terrible for everyone and terrible for the government ... Spain
is in a crisis of huge proportions," Foreign Minister Jose Manuel
Garcia-Margallo said in a radio interview.
Standard and Poor's cited risks of an increase in bad loans at Spanish banks and
called on Europe to take action to encourage growth.
The downgrade spooked financial markets, raising the interest rate fellow euro
zone struggler Italy was forced to pay to sell 10-year bonds at auction. The
yield was its highest since January as investors worried about the economic
outlook in the bloc's indebted states.
Analysts said the 5.95 billion euro Italian auction went well under the
circumstances, but Rabobank strategist Richard McGuire said the 5.84 percent
10-year yield "leaves a question mark over how long Italy will be able to
finance itself at levels that can be deemed sustainable".
Italy's main banking association said the economy may contract by 1.4 percent
this year, more than the government's 1.2 percent forecast.
Spain's country risk, as measured by the spread on yields between Spanish and
German benchmark government bonds, spiked before leveling off to around 420
basis points.
Spain has slipped into its second recession in three years and fears that it
cannot hit harsh deficit cutting targets this year have put it back in the
centre of the debt crisis storm, pushing up its borrowing costs.
Recovery and job creation are still two years off, Economy Minister Luis de
Guindos said on Friday in a news conference where he forecast 0.2 percent growth
in the gross domestic product next year and 1.4 percent growth in 2014.
De Guindos also said Spain would increase the value-added tax and other indirect
taxes next year, but would seek to reduce payroll taxes. Spain has a low VAT
compared with other European countries even after raising it in 2010.
The government has already rescued a number of banks that were too exposed to a
decade-long construction boom that crashed in 2008, and investors fear
vulnerable lenders will be hit by another wave of loan defaults due to the
slowing economy.
"It's a very challenging situation. I don't think that the banks are cornered
yet, but the government must come out soon to say how they will address them,"
said Gilles Moec, an economist with Deutsche Bank.
DEFICIT TARGETS DOOMED
S&P's head of European ratings, Moritz Kraemer, told Reuters Insider television
that Spanish banks could need state aid and the country faced further downgrades
if its debt troubles continue to escalate.
"It is not going to be an easy job for most Spanish banks to find funding in the
market. So the state may be called for at some point. But that, for now at
least, is something the Spanish government seems to be unwilling to
contemplate," he said.
Spain has ruled out any use of European funds to recapitalize its banks, weighed
down by bad property loans. Economy Secretary Fernando Jimenez Latorre said
Spain had sufficient financial capacity to handle a rescue itself in case of
need.
The government is considering whether to create a holding company for the banks'
toxic real estate assets after three rounds of forced clean-ups and
consolidations in the financial sector have failed to draw a line under the
problem.
Conservative Prime Minister Mariano Rajoy, in office since December, has passed
an austerity budget and introduced new laws to try to make the economy more
competitive, such as by reducing costs for companies to lay off workers. He has
also agreed with Brussels a higher deficit target for this year.
But he has not convinced investors, and Spain's borrowing costs have shot up
recently as the effect of a flow of cheap loans from the European Central Bank
has worn off.
On Thursday Rajoy said he was determined to stick to austerity measures even
though they are aggravating the economic slump and calls for growth measures are
mounting around Europe.
The treasury ministry estimated the increase of 365,900 jobless people in the
first quarter meant a loss of 953 million euros in tax income, making deficit
cutting even harder.
The unemployment rate was up from 22.9 percent in the last quarter of 2011 and
was worse than economists had forecast. Half of Spain's youth are out of work,
and figures are unlikely to improve for some time as the government slashes
spending by 42 billion euros this year, some 4 percent of economic output.