Fitch downgrades Spain credit rating outlook to negative

Fitch Ratings confirmed Spain’s sovereign credit rating Tuesday but downgraded its outlook to negative, blaming a weak economy, banking woes and spendthrift regions.

Spain’s rating was left at AA-plus, reserved for borrowers of “very high credit quality”, but the outlook was switched to negative from stable, reflecting the risk of a rating cut ahead.

“In many respects, Spain has exceeded expectations in terms of fiscal consolidation and structural reform, notably with respect to state pensions and the labour market,” Fitch sovereign analyst Douglas Renwick said in a statement.

“However, the negative outlook reflects the downside risks to Spain’s sovereign credit profile from a weak economic recovery, banking sector restructuring and fiscal consolidation, especially by regional governments,” he said.

Fitch, one of the three top agencies that assess how creditworthy borrowers are, warned that an EU summit March 24-25 could make things worse for Spain if it fails to produce a “credible and comprehensive” response to the debt troubles of the 17-nation euro zone.

Spain’s annual public deficit equalled a worrying 11.1 percent of annual output in 2009.

Madrid froze state pensions and lopped five percent off public sector wages to help curb the shortfall to 9.24 percent of output in 2010, and it is aiming to meet an EU ceiling of 3.0 percent by 2013.

The spending gap was enough to send accumulated public sector debt surging from 53.2 percent to 60 percent of total output in 2010, still better than many fellow nations that use the euro currency.

Spain managed to borrow on the financial markets albeit at higher rates even in the midst of the Greek and Irish financial catastrophes.

Nevertheless, Fitch said, “Spain’s relatively high level of foreign indebtedness renders the economy more vulnerable to a credit shock if the broader eurozone crisis intensified.”

Fitch said Spain’s government had a strong determination to cut spending. But this could be undermined if semi-autonomous regions failed to meet their deficit reduction targets in 2011 and 2012.

The rating agency welcomed reforms to increase transparency in the banking system, to raise the retirement age and to make employer-employee collective bargaining more flexible.

But Fitch raised a red flag over the likely cost of bolstering the balance sheets of Spain’s savings banks, hindered by loans that turned sour after the 2008 property market collapse.

It said banks would likely need another 38 billion euros ($53 billion) in capital to meet more stringent Spanish requirements on the amount of rock solid “core capital” banks must hold.

The Spanish economy shrank 0.1 percent in 2010 and the unemployment rate ended the year at 20.33 percent, the highest level in the Organisation for Economic Cooperation and Development (OECD) which groups 34 of the world’s developed economies.