Spain's sickly economy sees debt costs jump

Tue Apr 17, 2012 9:01pm IST

Related Topics

* Bank of Spain governor says budget consolidation key

* Treasury sells 3.2 billion euros of bills, above target

* Yields jump from last sale March 20

* Key test of Spain's debt Thursday at bond sale

By Paul Day and Nigel Davies

MADRID, April 17 (Reuters) - Spain must be ready for further tax rises to rein in its budget, its central bank governor said on Tuesday, after its debt costs leapt on sliding confidence in the euro zone's fourth biggest economy.

Two senior European figures joined a chorus of official voices ruling out a bailout for Spain, which would mark a critical new phase in the euro zone debt crisis, saying the country was delivering on economic reforms.

But Spanish central bank governor Miguel Angel Fernandez Ordonez, weighing in on the centre-right government's deficit reduction plan for the first time since it was unveiled last month, said problems raising taxes and outside factors like growth and inflation could put it at risk.

"The scale of adjustment required in our country is so great that we need to make use of all the instruments available, including taxes," Ordonez said, suggesting raising indirect taxes would be the preferable step.

Short-term borrowing costs almost doubled from a month earlier at a sale of more than 3 billion euros ($3.92 billion) of short-term government debt on Tuesday a bad sign for an auction of 2- and 10-year bonds on Thursday.

Good demand at Tuesday's sale, however, helped nudge 10-year yields back below the six percent threshold they reached on Monday on concern over its banking system, deficit and recession - a point below levels considered unsustainable.

In another positive sign, the International Monetary Fund saw Spain growing 0.1 percent in 2013 after forecasting a 0.3 percent contraction for next year in January.

Spain's government has acknowledged it is in recession this year and is fighting to convince sceptical markets it can reduce one of Europe's highest budget deficits amid huge unemployment.

OUTRAGE AT KING

The depth of the crisis fueled outrage in Spain on Tuesday over revelations its popular king had gone on an elephant hunt in Africa. Some commentators called for King Juan Carlos I, 74, to apologise or even abdicate in favour of his son Felipe.

Speaking to parliament's budget committee, Ordonez said the government's austerity measures were essential to restore growth and regain confidence among investors who say its debt costs will rise unless the European Central Bank resumes bond purchases after a two-month break, something it has shown no sign of doing.

"The tensions we have once again experienced in recent weeks are powerful reminder that the crisis is still far from over and that our economy's situation remains a particular cause for concern in Europe," Ordonez said.

German Finance Minister Wolfgang Schaeuble said Spain was delivering on reforms and the chairman of euro zone finance ministers Jean-Claude Juncker said investors should take note that Spain's fiscal consolidation was impressive.

"I would like to invite financial markets to behave in a rational way," he said. "Spain is on track."

Both ruled out the need for a bailout, as did Ordonez, who said a new three-year financing operation from the European Central Bank, which Spain's banks have made liberal use of, was not being planned. "I don't think it is on the table at the moment, but anything is possible," he said.

The 2012 budget, passed last month, aims to make savings of 27 billion euros through spending cuts and tax hikes. Ordonez said it would require a long-touted constitutional change to ensure budget consolidation by both central government and the 17-regional governments, largely blamed for the 2011 slippage.

"The current budgetary imbalance has become one of the main obstacles to growth of the Spanish economy. Correcting it is urgent and unavoidable," the governor said.

STIFF PREMIUM

Spain was forced to pay a stiff premium compared with a month ago when it sold 3.2 billion euros of 12- and 18-month T-bills on Tuesday. The 12-month bill yielded 2.623 percent compared with 1.418 percent at the last sale in March and the 18-month bill yielded 3.110 percent, up from 1.711 last month.

The sales were in sharp contrast to the country's debt auctions in the first quarter of the year as banks, backed by a wall of cheap European Central Bank cash, put some of it to work in debt of countries at the fringes of the euro zone.

Michael Leister, rate strategist at DZ Bank, said domestic bank bidding helped on Tuesday but did not change the bigger picture that much. "The key will be the bond auction on Thursday," he said.

Spain has eased its debt problem somewhat by selling almost half its planned issuance of medium and long-term debt for the year, which gave the treasury some comfort. "The strong demand indicates the market remains confident in the Spanish economy," a treasury statement said.

But international investors continue to steer clear from Spain's debt, leaving domestic banks as the main buyers.

"Spain likely has a few quarters at best in order to right the negative sentiment that dominates right now," ING rate strategist Padhraic Garvey said.

At the end of February, non-residents held 42 percent of Spanish public debt, the lowest level since 2007 and down from 50 percent in December, treasury figures show.

Analysts said national banks continued to support the auctions. The bid-to-cover ratio, an indicator of investor demand was 2.9 on the 12-month bill, compared with 2.1 last time, and was 3.8 on the 18-month bill, up from 2.9 in March.

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