* S&P; downgrades Spanish government debt
* Unemployment rate rises more than expected
* Retail sales continue to slide as recession grips
(Adds Italian auction, S&P;’s Kraemer, background)
By Nigel Davies
MADRID, April 27 (Reuters) – Spain’s sickly economy faces a
“crisis of huge proportions”, a minister said on Friday, as
unemployment hit its highest level in almost t w o decades and
Standard and Poor’s weighed in with a two-notch downgrade of the
government’s debt.
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, forcing fellow euro
zone struggler Italy to pay the highest yield since January to
sell 10-year bonds 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.
Spanish bank shares dropped more than 3 percent
after the downgrade before turning positive in the late morning
after the Italian auction. Spain’s country risk, as measured by
the spread on yields between Spanish and German benchmark
government bonds, spiked before leveling off.
Spain has slipped into its second recession in three years
and fears 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.
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 continued to rule out any use of European funds to
recapitalise its banks, weighed down by bad property loans.
Economy Secretary Fernando Jimenez Latorre said Spain had
sufficient financial capacity to hand 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.
Spain’s austerity measures have aggravated economic woes.
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 an even bigger chore.
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 is 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.
EUROPEAN ACTION NEEDED
S&P; now has Spain on a BBB+ rating, which means “adequate
payment capacity” and is only a few notches above a junk rating.
Fitch and Moody’s still rate Spain’s sovereign with a “strong
payment capacity”.
The ratings agency called on euro zone countries to better
manage the sovereign debt crisis.
Standard & Poor’s said the euro zone should implement
growth-promoting structural measures, feeding into the mounting
debate in Europe about the self-defeating nature of
austerity-only or austerity-first measures.
S&P; said steps to restore financial confidence should
“include a greater pooling of fiscal resources and obligations,
possibly direct bank support mechanisms to weaken the
sovereign-bank links, and a consolidation of banking supervision
or a greater harmonization of labour and wage policies.”
The call for a Europe-wide system to resolve and underpin
banks echoed similar comments from the ECB’s Executive Board
members Joerg Asmussen and Benoit Coeure.
(Additional reporting by Sonya Dowsett and Inmaculada Sanz;
Writing by Fiona Ortiz; Editing by Giles Elgood)
