European leaders are testing the latest version of their debt crisis strategy in Spain, granting Prime Minister Mariano Rajoy more time to reduce the budget deficit in exchange for deeper spending cuts.
Rajoy yesterday announced 65 billion euros ($80 billion) of austerity measures in a renewed effort to meet European Union budget targets after he was granted a one-year extension on the deadline to meet EU limits.
“Europeans are learning from past mistakes,” said Christian Schultz, a senior economist at Berenberg Bank in London and a former European Central Bank official. “The stick is necessary but the carrot is also good.”
Europe’s concession to recession-wracked Spain has raised expectations in Ireland and Portugal that they can win more time to rein in their budget deficits after Germany’s hardball tactics in Greece spurred a rebellion against bailout politics there.
Spanish bonds rose for a third day today. The extra yield investors demand to hold Spanish 10-year debt instead of the benchmark German bunds dropped 4 basis points to 527 basis points at 11:15 a.m. in Madrid.
“People can see that they are serious,” said Javier Morillas, professor of international economics at San Pablo CEU University in Madrid. “I don’t think these are the last measures we’ll see, and they certainly aren’t the last cartridges Rajoy has left.”
Rajoy’s budget package came as Spain finalizes the conditions of a 100 billion-euro bank rescue bank that will allow International Monetary Fund officials to intervene in the process of restructuring the banking system and tightens scrutiny over spending plans.
European leaders also held out the prospect of buying Spanish debt to trim yields as long as Rajoy complies with their conditions, which include transferring powers from the Economy Ministry to the Bank of Spain and bolstering the central bank’s independence.
Rajoy is also seeking additional cuts from the 17 regional governments, which control health and education. Even as Spain’s own access to capital markets is narrowing, the central government is planning to help states fund themselves on markets.