Is Spain the next Italy? The Spanish ten-year bond yield has risen sharply and the spread over German yields is at its widest since the euro was launched. One worry is the unexpectedly weak economy, which will make it impossible to meet deficit-reduction targets. Growth stagnated in the third quarter and could fall below the zero line due to households’ high debts, the ailing banking system, and weakening external demand.
The centre-right People’s Party, expected to gain an absolute majority in a national election this weekend, is expected to impose further austerity measures. But these look set to undermine growth, and hence deficit reduction, in the near-term. They may also be thwarted by popular opposition. Furthermore, Spanish banks are likely to “need tens of billions more in state aid than has so far been admitted”, says Victor Mallett in the Financial Times. That clouds the public debt outlook further. Given all this, fears of an eventual Spanish default are unlikely to recede in a hurry.