Spain in eye of storm on Greek contagion fears

5th May 2010, Comments 0 comments

Spain emerged as a litmus test for the eurozone as stocks slumped on Wednesday and authorities sought desperately to dispel fears that the Greek debt debacle would infect Madrid.

"There is no need to propose financial assistance" for Spain, the EU's Economic Affairs Commissioner Olli Rehn said in Brussels.

"No, we'll not do it," he added, when asked whether the eurozone would be forced to put together the kind of multi-billion euro loan rescue package for Spain that it is organising for debt-ridden Greece.

Madrid's benchmark Ibex-35 share index slumped more than 3.0 percent on Wednesday after ratings agency Moody's warned that it may downgrade neighbouring Portugal's sovereign debt due to its worsening public finances.

The fall extended losses from Tuesday when the index closed down 5.41 percent on rumours, denied by the government, that Madrid would ask for a 280-billion-euro (364-billion-dollar) bailout from the International Monetary Fund.

The borrowing costs of Spain, Greece and Portugal also rose on Wednesday as investors demanded higher interest rates to hold their debt.

Spain remains the last major economy still in recession, with an unemployment rate that topped 20 percent in the first quarter, the highest in the 16-nation eurozone.

The Spanish economy has proved especially vulnerable to the global credit crunch because growth relied heavily on credit-fuelled domestic demand and a property boom boosted by easy access to loans that has collapsed.

The socialist government announced a 50-billion-euro (66.5-billion-dollar) austerity package this year as part of its drive to slash public deficit from 11.2 percent of gross domestic product in 2009 to the eurozone limit of 3.0 percent by 2013.

But many analysts argue more measures will be needed for this target to be met.

In a move to calm the markets, Spanish Prime Minister Jose Luis Rodriguez Zapatero said that Madrid would "strictly respect" its plan to rein in the deficit, but rejected any additional austerity measures.

He also pointed to "positive data" about the economy that indicate "we have the conditions to be much closer to emerging from the crisis.

"These are data and facts, not rumours or hypotheses," he said.

The prime minister mentioned a recovery in industrial production annnounced Wednesday and a slight reduction in unemployment for April. He also suggested that Spain could emerge from recession in the first quarter.

But analysts said investors remain unconvinced.

"I believe that contagion risks are increasing," IHS Global Insight economist Diego Iscaro told AFP.

"Given how difficult and time consuming was to agree this (Greek) package, I can't really see Germany et al coming up with timely financial support for other Eurozone economy if needed."

Royal Bank of Scotland strategist Gregg Gibbs agreed that "the contagion in Europe is a worry.

"After getting a bigger bail-out and agreement on austerity measures with the Greek government, the market is still heading for the exit on eurozone periphery debt. The question has to be asked whether the European authorities can stop this from snowballing."

At French bank BNP Paribas, analysts commented: "Both Portugal and Spain are suffering from the perception that if they get into trouble ... Germany will not be pulled round to authorising a bailout."

In a reference to the dominos which fell as the global financial crisis spread, they said: "People worry that, if Greece is Bear Stearns, Portugal is Lehman and Spain AIG.

"Somehow the EU authorities need to reduce the uncertainty about Spain and Portugal."

IMF chief Dominique Strauss-Kahn conceded there was a risk that "contagion" from the Greek debt crisis could engulf other weakened European economies, such as Spain.

"We must avoid contagion, and that is also what the Greek plan was tailored to do," he said in an interview with Wednesday's edition of the French newspaper Le Parisien.

He played down immediate concerns about Portugal, where the main stock market plunged further on Tuesday.

"People talk about Portugal, but it is already taking action," he said.

The Standard and Poor's agency last week lowered the long-term sovereign credit rating of both Spain and Portugal and reduced Greece's to junk status.

The Moody's agency warned on Wednesday that it may downgrade Portugal's sovereign debt within three months because of worsening public finances and weak growth prospects.

But both the Moody's and Fitch agencies Tuesday denied they were reevaluating their rating for Spain, which is currently AAA, the highest possible level.


© 2010 AFP

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