Spain's economy slipped into recession in the first quarter, data showed on Monday, with deep government spending cuts to reduce a massive public deficit and troubles in the banking sector likely to delay any return to growth.
Gross domestic product shrank 0.3 percent in January to March from the previous quarter according to preliminary National Statistics Institute data, slightly better than forecasts in a Reuters poll for a drop of 0.4 percent.
The government is under intense pressure from its European peers to streamline the euro zone's fourth largest economy, cut the deficit and fix a banking system damaged by the poor economy and a burst property bubble.
The recession, defined by two straight quarters of economic contraction, is the second since the end of 2009. Spain's economy has not grown on a quarterly basis by more than half a percentage point since the beginning of 2008.
"We expect an increase in the pace of contraction in the quarters to come as the austerity measures bite more sharply," European economist at BNP Paribas, Evelyn Herrmann, said in a note.
The Spanish government's updated economic stability plan, published on Friday before it was sent to the European Commission, forecast a contraction of 1.7 percent in 2012 turning to 0.2 percent growth by next year.
On an annual basis the economy contracted by 0.4 percent compared with growth of 0.3 percent in the previous quarter, the data showed. Economists polled by Reuters, as well as the Bank of Spain, had forecast a slippage of 0.5 percent.
BANKS IN FOCUS
Spain pays close to 6 percent on 10-year benchmark bonds, a level some consider to be unsustainable over the long-term.
Standard and Poor's ratings agency last week cut the country's credit rating two notches to BBB plus citing concern about the government's exposure to its ailing banks, fueling investor nerves over the country's fiscal sustainability.
S&P also downgraded 11 of the country's banks on Monday.
"The factors behind the downgrade of Spain could have potentially negative implications for our view of the economic risk and industry risk affecting the Spanish banking industry and for our analysis of specific rating factors that drive our stand-alone credit profile assessments on Spanish banks," S&P said.
Unemployment jumped to 24.4 percent in the first quarter, more than double the EU average and Spain's two largest banks Santander and BBVA have suggested they may not buy any more government debt this year.
"The S&P downgrade on Spanish banks was already priced in and shares are almost flat or just slightly down. What the market is waiting for now is the outcome of a possible downgrade on Spanish banks by Moody's after putting their outlooks under revision a some time ago," said Nuria Alvarez, analyst at Madrid-based Renta 4.
The government has announced savings of over 40 billion euros ($53.04 billion) this year from both central and regional government budgets, to try and meet a deficit goal of 5.3 percent of GDP this year from 8.5 percent of GDP in 2011.
The conservative government, which took power from the Socialists in December, has introduced a labour reform and a banking sector reform which forces the banks to raise over 52 billion euros in capital this year.
However, with property prices expected by some to fall another 20-30 percent, many economists believe increased banking provisions against potential bad real estate loans will not be enough to stabilize the sector.
Meanwhile, Spain's current account was in deficit to the tune of 5.9 billion euros in February, up from a deficit of 5.3 billion euros in the same month a year earlier, the Bank of Spain said on Monday.
