By CIARAN GILES
MADRID – Europe’s debt crisis cast its gloom over larger countries like Spain on Tuesday as investors sold off government bonds on worries that the common currency region will be strained by more expensive bailouts.
The yields on Spain’s 10-year bonds jumped as high as 5.7 percent – a euro-era record difference of 3.05 percentage points against the benchmark German 10-year bond – before easing to 5.5 percent on the close.
The spread on Italy’s equivalent bond also reached the highest since the 1999 launch of the euro, before falling back somewhat. Portugal’s bond yields, which soared last week, eased slightly but remained near record highs of 7 percent.
“Ireland’s bailout package has clearly failed to stop the rot in the eurozone markets and if anything it has focused attention on other countries in the periphery,” said Mitul Kotecha, analyst at Credit Agricole CIB.
The continued market turmoil “will come as a bitter blow to European officials who had hoped that it would help to turn sentiment around,” he said.
Jose Manuel Campo, economy secretary at the Spanish finance ministry, sought to ease tensions and described the market reaction as “disproportionate.”
“It’s not necessarily worrying,” he told a parliamentary commission but added that it would be of concern if it continued for some time as it would then make loans to the public more expensive.
He said investors’ lack of confidence “is poorly justified and based on a short term analysis,” pointing out that there were major differences between Spain and Greece, Ireland or Portugal.
Spain and Portugal, deemed the next weakest links in the eurozone economy, have continually denied they will need outside help but investors have become increasingly skeptical that the series of bailouts will stop.
At the heart of the problem is that the austerity measures these countries need to take to reduce their deficits threaten to backfire by weakening economic growth and hurting state revenues. That is what’s happening in Greece, which has been able to drastically cut its spending but is struggling to raise tax income as economic and corporate activity wilts.
“It is clear that the market is aware of the tightrope that ‘peripheral’ governments are walking,” said Neil Mellor, currency strategist at Bank of New York Mellon.
Portugal’s central bank warned Tuesday that the financial system is facing “serious challenges,” as foreign concerns about public, private and corporate debt have made it harder for Portuguese banks to raise money on international markets.
Continuing to request financing from the European Central Bank is “unsustainable,” the bank warned, saying banks should adopt a commercial policy of encouraging saving to ensure their liquidity.
While rescuing Portugal would be about as costly as Greece or Ireland, who each represent less than 2 percent of the eurozone economy, a Spanish bailout would test the limits of Europe’s finances. It accounts for over a tenth of the eurozone economy, and Italy is even larger.
Spanish Prime Minister Jose Luis Rodriguez Zapatero has vigorously defended the nation’s economy and finances. He blames the bond market problems on speculators looking to make money on Spain in the short term and said they would be proven wrong.
But former Spanish premier Felipe Gonzalez, who chairs an EU Reflection Group that analyzes the bloc’s future, felt the ECB could help by boosting money into the economy the way the Federal Reserve does.
He warned that if Europe did not get ahead of the markets, the cases of Ireland and Greece would be repeated and in the end the entire 27-nation group would be contaminated.
Zapatero maintains Spain’s plans to reduce its deficit are being fulfilled and noted that the country’s total debt at roughly 60 percent of GDP was still 20 percentage points below the European average. By contrast, Italian debt is expected to top 118 percent of GDP this year, though its bonds are considered safer because they are not owned – and therefore speculated upon – by foreign investors to the same extent.
Still, Spain is struggling to emerge from a near two-year recession and has a eurozone high unemployment rate of near 20 percent. There is also concern that the effort to slash a swollen deficit from 11.2 percent of GDP in 2009 to within the EU limit of 3 percent by 2013 will prove too difficult.
The European Commission said earlier this week it was doubtful that Spain, Portugal, Ireland and Italy would meet their deficit targets and said more austerity measures might be needed.
Spanish Finance Minister Elena Salgado insisted Tuesday that Spain would reach the deficit target no matter what and ruled out more austerity measures for fear of damaging growth.
She acknowledged that the Irish bailout did not seem to be sufficient to qualm fears and blamed that country’s bank problems for the current speculation and the threat to the euro currency.
Like Spain, Portugal’s government has repeatedly insisted that its austerity program next year will be enough to restore its fiscal health. However, that line was used by the Greek and Irish governments as well before they finally accepted bailout packages.
Madrid’s main stock index closed down 0.6 percent to lose 17 percent in November, while Portugal’s main index ended 1.0 percent lower.
Barry Hatton in Lisbon and Colleen Barry in Milan contributed to this report.
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