Spain seeks to reassure as borrowing costs rise

 

Spain sought to reassure investors on Tuesday that it is on track to meet its budget targets after its short-term borrowing costs jumped by around half a percentage point at a debt auction.

Investors who worry that Spain might be euro zone's next crisis economy took some comfort from heavy demand at the sale of 1.97 billion euros in treasury bills, prodding the euro higher on the currency market.

But the average yield for the 3-month bills jumped to 1.371% compared with 0.899% in March, and 6-month rates to 1.867% from 1.361%.

"Although these yield levels are perhaps still currently more cause for concern rather than outright alarm, there is little scope for further such increases in short-dated funding costs before the market begins to get spooked over the prospect of Spanish contagion," said Rabobank rate strategist Richard McGuire.

Treasury Secretary Carlos Ocana said public deficit figures for the first three months of the year showed Spain was on track to stay within its target ceiling of 6% of GDP this year, down from 9.2% in 2010.

"The deficit target should be met considering the data we have until now," Ocana said.

But speculation Greece may have to restructure its debt, denied by officials, and talks on the euro zone's third bailout in a year in Portugal have pushed up Spain's refinancing costs and fuelled concerns it may be next.

FINANCING COSTS UP

The European Union's and International Monetary Fund's collective bailout vehicle, the European Financial Stability Fund (EFSF) could be severely stretched if Spain, the bloc's fourth largest economy, was forced to seek aid.

Simmering doubts over the Spanish economy and rising interest-rate expectations - the three-month Euribor rose to its highest in almost three years on Tuesday - pushed up short-term debt rates.

Madrid has addressed warnings of an unsustainable public deficit and an economic model over-reliant on a near-defunct property sector with a slew of austerity measures and structural reforms, but worries persist.

Yields leapt at an auction of longer-term debt maturing in 2021 and 2024 in mid-April as investors demanded higher risk premiums, but rates on the 10-year paper held below the upper end of the recent range of 5.6%.

The housing sector collapse almost three years ago has pushed unemployment to more than double the EU average and smashed its banks, which some say face a capital shortfall of over 100 billion euros, or around 10% of gross domestic product.

However, with a debt-to-GDP ratio of 60.1% in 2010 - around 25 percentage points below the euro zone average, according to EU data on Tuesday - Spain could absorb the worst-case-scenario bank recapitalisation if necessary, economists say.

Spain has one of the highest public deficits in the euro zone after a massive spending spree in 2008 to ward off the worst of the economic crisis, but has said it will cut the shortfall to 3% of GDP by 2013 in line with EU recommendations.

Treasury Secretay Ocana also said Spain had a sufficient capital buffer to meet its first major long-term debt redemptions at the end of April of around 15 billion euros.