Spain borrowing rates soar after Moody's downgrade

Spain's Prime Minister Mariano Rajoy leaves after a control session at the Spanish Parliament, in Madrid, Wednesday, June 13, 2012. The interest rate Spain would have to pay to raise money on the world's bond markets continued to rise Wednesday amid worries that a planned bank bailout might not be enough to save the country from needing an overall financial rescue. (AP Photo/Daniel Ochoa de Olza)

Spain's Prime Minister Mariano Rajoy leaves after a control session at the Spanish Parliament, in Madrid, Wednesday, June 13, 2012. The interest rate Spain would have to pay to raise money on the world's bond markets continued to rise Wednesday amid worries that a planned bank bailout might not be enough to save the country from needing an overall financial rescue. (AP Photo/Daniel Ochoa de Olza)

Spain's Prime Minister Mariano Rajoy speaks during a control session at the Spanish Parliament, in Madrid, Wednesday, June 13, 2012. The interest rate Spain would have to pay to raise money on the world's bond markets continued to rise Wednesday amid worries that a planned bank bailout might not be enough to save the country from needing an overall financial rescue. (AP Photo/Daniel Ochoa de Olza)

Spain's Prime Minister Mariano Rajoy looks up during a control session at the Spanish Parliament, in Madrid, Wednesday, June 13, 2012. The interest rate Spain would have to pay to raise money on the world's bond markets continued to rise Wednesday amid worries that a planned bank bailout might not be enough to save the country from needing an overall financial rescue. (AP Photo/Daniel Ochoa de Olza)

Spain's Economy Minister Luis de Guindos, left and Spain's Prime Minister Mariano Rajoy talk during a swearing in ceremony for the new governor of the Bank of Spain Luis Maria Linde, unseen, at the Zarzuela Palace in Madrid Monday June 11, 2012. The current Bank of Spain governor Miguel Fernandez Ordonez is stepping down a month earlier than scheduled. (AP Photo/Angel Diaz,Pool)

MADRID (AP) ? Spain's borrowing rates have hit a high not seen since the country joined the euro in 1999 after a credit ratings agency downgraded the country's ability to pay down its debt.

The interest rate ? or yield ? on the country's benchmark 10 years bonds rose to a record 6.96 percent in early trading Thursday, close to the level which many analysts believe is unsustainable in the long term and at which countries such as Greece, Ireland and Portugal have sought an international bailout.

The ratings agency Moody's downgraded Spain's sovereign debt three notches from A3 to Baa3 Tuesday evening, leaving it just one grade above "junk status".

Moody's said the downgrade was due to the offer from eurozone leaders of up to ?100 billion to Spain to prop up its failing banking sector, which the ratings agency believes will add considerably to the government's debt burden.

The lowered score means that even fewer investors will buy Spanish debt as organizations such as pension funds are mandated not to invest in assets with such low creditworthiness.

The bailout was meant to recapitalize the banking system and calm Europe's debt crisis. Instead, investors seem unnerved by the government taking on extra debt and have pushed Spanish bond yields ? a measure of market jitters ? higher all week.

The ratings agency said the Spanish government's ability to raise money on global markets was being hindered by high interest rates, a situation which had led it to accept eurogroup funds to recapitalize debt-burdened banks.

Some details of what the bailout might look like began to emerge Thursday. European officials are considering selling off banks' assets as part of the plan to prop up the Spanish banking sector, a spokesman for Competition Commissioner Joaquin Almunia said.

"Liquidation is always looked at," said Antoine Colombani. "We prefer to liquidate when it's cheaper for the taxpayer."

Since a weekend agreement to save the banks involves first lending the money to Spain, there are concerns that taxpayers are ultimately on the hook for the banks' bad decisions. Also, investors are worried that the deal raises Spain's debt and deficit levels.

Eurostat, the European statistics agency, said Wednesday that it was unclear how much the country's deficit would rise because it depended on how it lent the money on to the banks. Part of that decision will depend on the interest rate the banks are given; if it's too low, it could be considered more a gift than a loan and would count against the deficit.

Colombani said that under one plan being considered, the minimum for the rate would be 8.5 percent. Eurostat did not immediately respond to questions about whether that would be high enough to avoid having the loans count against deficit.

Part of Almunia's role is to help countries deal with troubled banks, and he will travel to Madrid on Friday to meet with Prime Minister Mariano Rajoy.

The Spanish government's erratic response to the crisis has irritated European Union leaders, Spain's leading newspaper El Pais said on its front page Thursday.

The paper said Rajoy has come under criticism in EU circles for presenting the bailout as a "light" measure and a victory for Spain and the euro, leading to an outcry for similar treatment by other austerity-saddled bailout countries such as Portugal and Ireland, which have had to struggle with heavy, externally imposed fiscal controls.

Speaking to the German parliament in Berlin on Thursday, Chancellor Angela Merkel insisted: "Spain is implementing the right reforms."

"The Spanish Prime Minister is doing this with great courage and great determination," she added.

Merkel again welcomed Spain's move to apply for European funds to recapitalize its banks. "We know banks must be reasonably capitalized to do keep the economy afloat, that is the lesson from 2008, 2009," she said.

"The faster Spain gets the application done, the better," she said.

Spain's benchmark stock index, the IBEX-35, opened 0.6 percent lower Thursday but recovered to trade 0.2 percent higher by early afternoon in Madrid, according to financial data provider FactSet.

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Daniel Woolls in Madrid, Juergen Baetz in Berlin and Sarah DiLorenzo in Brussels contributed to this report.

Associated Press

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