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Bond downgrade puts pressure on Spain for bailout request (+video)

Even though Standard & Poor's dropped Spain's bond rating to just above junk status, making a bailout request likely, Germany remains opposed to acceding to a bailout prematurely.

By Correspondent / October 11, 2012

A couple wall past a closed-down business premises in Madrid, Thursday, a day after Standard & Poor's downgraded its rating on Spain's debt by two notches, leaving it on the cusp of junk status. A grinding recession, high unemployment, and social unrest are limiting the government's options for stemming the country's financial crisis, S&P says.

Paul White/AP

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Madrid

Pressure mounted Thursday on Spain to officially request a European bailout after rating agency Standard & Poor’s downgraded the country’s rating to the lowest investment grade possible. But even if Madrid finally makes the long-expected request, it still faces one more obstacle: Germany, which doesn't believe Spain needs the bailout.

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Spain's latest downgrade was partly due, says Standard & Poor, to a lack of clear direction in eurozone policies. Joanne Nicholson, Reuters, reports.

S&P downgraded late Wednesday Spain’s debt two notches to BBB-, just a notch above the non-investment rating of junk status. “The deepening economic recession is limiting the Spanish government's policy options,” S&P said in a press release.

“The negative outlook on the long-term rating reflects our view of the significant risks to Spain's economic growth and budgetary performance, and the lack of a clear direction” in the 17-member eurozone policy, the rating agency added.

“We were surprised,” said Spanish Secretary of State for Economic and Business Affairs Fernando Jimenez Latorre about the downgrade. He suggested though S&P was wrong. “The agency could reconsider once the goals we have set out are met.”

But the Spanish government is running out of credibility. The International Monetary Fund and most other private and multinational institutions say the government’s forecast of a 0.5 percent contraction of its gross domestic product in 2013 is far too optimistic. The IMF said Monday it expects the GDP to fall 1.3 percent, while S&P expects 1.4 percent decline.

The IMF also said that, as a result, Spain will inevitably miss its public-deficit targets of 6.3 percent of GDP for 2012 and 4.5 percent for 2013. It estimates a 7 percent deficit in 2012 and 5.7 percent in 2013.

To cut or not, that is the question

Under these circumstances, pressure is building for Spain to request a bailout. Indeed, Spain’s 2013 budget proposal earmarked interest payments on debt that will by far outstrip savings from public spending cuts.

Still, Germany is reluctant to support the bailout because it sees no tipping point just yet. Spain and other southern European countries, including heavyweights France and Italy, say it’s a question of time and that the request should not be delayed until it becomes a desperate solution.

The ultimate question is how much Spain can continue cutting public spending and raising taxes to meet deficit cutting goals, while its economy and citizens reel from the pain. Unemployment already tops 23 percent and is rising; healthcare and education, along with other public services, have been severely trimmed; poverty is soaring; and violent protests have become a daily routine.

“It is sometimes better to have a bit more time,” IMF Managing Director Christine Lagarde said this week. “That is what we advocated for Portugal; this is what we advocated for Spain; and this is what we are advocating for Greece.”

Germany doesn’t agree, at least not yet. “The IMF has time-and-again said that high public debt poses a problem,” German Finance Minister Wolfgang Schaeuble answered. “So when there is a certain medium-term goal, it doesn't build confidence when one starts by going in a different direction.”

“Doubts over some eurozone governments' commitment to mutualizing the costs of Spain's bank recapitalization are, in our view, a destabilizing factor for the country's credit outlook,” S&P said.

Also delaying the request are three regional elections scheduled this year, including in the Basque Country and Catalonia. The two regions are economic powerhouses and polls suggest independence-driven nationalist forces will be strengthened. The government is postponing the bailout to avoid more political backlash.

“Rising unemployment and spending constraints are likely to intensify social discontent and contribute to friction between Spain's central and regional governments,” S&P said.

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