Standard and Poor's downgraded Spanish credit ratings by two notches on Thursday saying that it expects further deterioration of the country's public finances amid economic contraction and the need to support banks.
S&P said it is lowering the euro member's long-term and short-term sovereign credit ratings to 'BBB+/A-2' from 'A/A-1'. The outlook on the ratings is 'negative'.
"We believe that the Kingdom of Spain's budget trajectory will likely deteriorate against a background of economic contraction in contrast with our previous projections," the agency said in a statement.
S&P said it is also worried over the increasing likelihood that Spain's government will need to provide further fiscal support to the banking sector. As a result, there are heightened risks that Spain's net general government debt could rise further.
According to Bank of Spain, Spanish banks' bad loans reached an 18-year high in February, constituting 8.16 percent of loans held by the lenders.
The 'negative' outlook reflected the firm's view of the significant risks to Spain's economic growth and budgetary performance.
This was the second downgrade by S&P this year after it lowered Spain's ratings to 'A/A-1 with a 'negative' outlook on January 13.
S&P also lowered its forecast for GDP and now expects the Spanish economy to contract in real terms by 1.5 percent in 2012 and 0.5 percent in 2013 compared to its previous forecasts of a real GDP growth of 0.3 percent in 2012 and 1 percent in 2013.
According to the agency, the main drags on the GDP were declining disposable incomes, private-sector deleveraging, implementation of the government's front-loaded fiscal consolidation plan and the uncertain outlook for external demand in many of Spain's key trading partners.
S&P believes that the government's labor reform measures will not be able to create net employment in the near term and as a consequence, the already high unemployment rate, especially among the young, will likely worsen until a sustainable recovery sets in.
After missing the deficit target last year, the government committed to a budget target of 5.3 percent of GDP in 2012 and 3 percent in 2013. According to S&P, the current goals are unlikely to be met, given the economic and financial environment.
Estimates by Bank of Spain showed on April 23 that the economy slipped back into recession in the first quarter of 2012 with the gross domestic product shrinking 0.4 percent quarter-on-quarter. This followed a 0.3 percent fall in the fourth quarter, which was the first decline in activity since the final three months of 2009.
Earlier this month, the country's 10-year borrowing costs surged to over 6 percent, close to levels widely seen as unsustainable, triggering concerns that the euro member will be forced to seek an international bailout.
S&P also criticized Europe's attempts to contain the crisis so far, saying "the strategy to manage the European sovereign debt crisis continues to lack effectiveness."
The measures at the Eurozone level could include a greater pooling of fiscal resources and obligations, possibly direct bank support mechanisms, and a consolidation of banking supervision or a greater harmonization of labor and wage policies, it said.
by RTT Staff Writer
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