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Spain downgrade reinforces debt crisis fears

Spain’s economic problems were put in sharp relief Friday as figures showed unemployment is near 25 percent and a credit ratings agency hours earlier downgraded the country’s debt rating, warning it faces an uphill battle to get a grip on its finances.

Official figures showed that unemployment has spiked to 24.4 percent in the first quarter of 2012 — the highest rate in the 17-country eurozone — from 22.9 percent in the fourth quarter of 2011. It said another 365,900 people lost their jobs in the first three months of the year, taking the total unemployed to 5.6 million.

The figures represent another blow to the conservative government after Standard & Poor’s became the first of the three leading credit rating agencies to strip Spain of an A rating. It cited a worsening in the budget deficit, worries over the banking system and poor economic prospects for its decision to reduce the rating by two notches from A to BBB+.

S&P even warned that a further downgrade is possible as it left its outlook assessment on Spain at “negative.”

Spain, the eurozone’s fourth-largest economy, is just now just three notches above so-called junk status.

Markets reacted negatively to the twin news, with stocks down across Europe. Spain’s IBEX index was down 1.5 percent shortly after the open, while the yield on the country’s ten-year bond spiked 0.16 percentage points to 5.95 percent. Though the yield is below the 7 percent rate widely-considered unsustainable in the long-run, it’s edged up over the past month from below 5 percent in a clear sign that investors are getting increasingly fidgety over Spain’s economic prospects.

“Some will blame the downgrade for causing market unrest; instead it is merely a symptom of much deeper problems endemic in the Spanish economy and banking system,” said Sony Kapoor, managing director of Re-Define, an economic think-tank. “More than anything else, this is the result of the deeply flawed and self-defeating approach to the euro crisis that EU leaders have embarked on.”

Spain has become the epicenter Europe’s debt crisis in recent weeks as investors worry over its ability to push through austerity and reforms at a time of recession and mass unemployment.

With the economy shrinking and the population restless, there are concerns that the government will not meet its targets and will be forced into seeking a financial rescue as Greece, Ireland and Portugal have done before.

The difference is that Spain’s economy is double the size of the three countries that have already been bailed out. The other eurozone countries would struggle to muster enough money to rescue it.

Even if the eurozone finds the financial capacity to bail out Spain, economists warn the crisis could then envelop Italy, the eurozone’s third-largest economy, which owes around (euro) 1.9 trillion ($2.5 trillion), more than double Spain’s (euro) 734 billion.

There are even concerns that France, the second-biggest eurozone economy, could face another downgrade from S&P after the presidential elections next Sunday, in which Socialist candidate Francois Hollande is tipped to defeat President Nicolas Sarkozy.

“With a potential change of President on the agenda one might think that France could be next in the firing line,” said Gary Jenkins, managing director of Swordfish Research. “It will of course depend to some degree on the policies of the next President and it may well be that a Hollande-inspired move towards common eurobond issuance may well placate the agency.”