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Source: Marketwatch

S&P downgrades Spain

12:14p ET April 28, 2010 (MarketWatch)

LONDON (MarketWatch) -- It was Spain's turn Wednesday to feel the heat from Standard & Poor's as the ratings agency cut the country's credit rating from AA+ to AA, pinning the decision on fears that an extended period of weak economic growth could damage the government's budget position.

"We now believe that the Spanish economy's shift away from credit-fueled economic growth is likely to result in a more protracted period of sluggish activity than we previously assumed," said S&P credit analyst Marko Mrsnik.

The outlook for Spain's credit rating is negative, S&P said.

The move comes a day after S&P cut Greece's credit rating to junk status at BB+ and lowered Portugal's credit rating by two notches. Those moves amplified turmoil in southern European credit markets and heightened fears that Greece's deepening fiscal woes could transform into a full-blown debt crisis for the euro zone. Read about the earlier downgrades.

Earlier Wednesday, European officials scrambled to reassure markets that an aid plan for Greece would soon be finalized. Talk that the size of the joint European Union-International Monetary Fund package could rise -- to more than 100 billion euros ($131 billion) over three years, rather than the 45 billion euro, one-year package currently under consideration -- helped calm extremely volatile southern euro-zone credit markets. Read about contagion fears.

The Spanish downgrade renewed selling pressure on the euro , which fell to its lowest level against the dollar since April 2009, setting a 12-month low for the second consecutive session after having fallen Tuesday in the wake of the Greece downgrade.

The currency remained 0.3% lower at $1.3141. See Currencies for more on action in the dollar and the euro.

Regarding Spain, S&P said it now expects inflation-adjusted growth in gross domestic product to average 0.7% annually in 2010 to 2016, compared to previous expectations of more than 1%.

Spain's economy continues to suffer from the implosion of a massive housing bubble.

The ratings agency said it also had taken into account the possibility that borrowing costs in Spain's public and private sectors could remain elevated this year and in 2011, further slowing Spain's recovery from recession. Such a prospect wasn't factored into the agency's "base case" for Spain, however.

Borrowing costs for other highly indebted euro-zone countries have risen amid fears the debt woes weighing on Greece could spread.

S&P said it still expected Spain's 2010 fiscal deficit to remain in line with the government's target of 9.8% of GDP, adding that weaker revenues and higher spending are likely over the medium term. That means the deficit is likely to exceed 5% of GDP by 2013, according to S&P.

The government has said it intends to cut its deficit to 3% of GDP -- the E.U.'s limit -- by that time.

The agency also said its debt projections assume banks won't draw more than the 27 billion euros available in the government's bank-restructuring fund.

S&P said it would revise its outlook for Spain's rating to stable if the government meets or exceeds its fiscal goals in 2010 and 2011 and Spain's economic growth exceeds the agency's expectations.