Spain election fails to soothe nervous debt markets

Spanish and German spreads rise; 10-year yields rise in line with Italian equivalent; economic problem at euro level.

By REUTERS
Spains People's Party leader Mariano Rajoy (photo credit: REUTERS/Juan Medina )
Spains People's Party leader Mariano Rajoy
(photo credit: REUTERS/Juan Medina )
MADRID - A resounding election victory by Spain's center-right People's Party failed to calm nervous debt markets on Monday as concern over the deepening eurozone crisis and a lack of concrete proposals lead to a continued rise in premiums.
The difference between Spanish and German bond yields rose to 472 basis points in early trade, up by around 28 bps from settlement on Friday. Yields on its 10-year paper rose in line with troubled Italy.
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"It's a little bit late in the day to be looking to austerity and certainly nothing we have seen from the Irish government has turned around sentiment significantly in the interim," said RBS interest rate strategist Harvinder Sian.
The widening spread on Monday was largely due to the absence of the European Central Bank in the market, he said, which has been buying Spanish and Italian bonds since August to offset wider selling on concerns they would need aid.
"The suspicion is, without the ECB being involved these spreads will be materially wider, and ultimately, if the ECB does become a little bit less aggressive in its buying action, the (EU rescue fund) the EFSF beckons for both," said Sian.
Austerity measures and economic reforms by the Spanish Socialists, which ultimately cost them the election, has kept markets from pushing Spain to the limit of sustainable financing costs, but deeper cuts are needed.
Spain's economy still expected to sink into recession by early 2012
For the new government to meet the public deficit target of 4.4 percent of gross domestic product by the end of 2012 it will have to slice around 30 billion euros ($40.6 billion) from the budget, punishing for an economy expected to sink into recession by early next year.
With one in five Spaniards out of work, the banks choking off new loans to meet tough capital requirements and the construction sector still in the doldrums, the PP will have to work hard to convince investors it can turn the economy around.
New leader Mariano Rajoy, to be sworn in by mid-December, will hold a clear mandate with the largest Parliamentary majority for any party in three decades.
But he has still to outline any concrete proposals and has pleaded with markets for time to tackle the crisis, time he can barely afford as 10-year bond yields hover near the key seven percent level.
"I think as soon as he can, Rajoy would like to present markets with a credible stance. The number will be important, but the credibility behind that will also be important so any break through on that front will be welcome," said Peter Goves, a strategist at Citi.