Spain, Greece, continue to worry investors

Europe's debt crisis threatened to further undermine Spain's ability to borrow Wednesday, as lenders demanded yields that neared the seven per cent level that forced Greece, Ireland and Portugal to accept bailouts.

Flaherty concerned crisis could affect Canadian banks

Protestors stage anti-austerity demonstrations at Madrid's Puerta del Sol square Tuesday. (Pierre-Philippe Marcou/AFP/Getty)

Europe's debt crisis threatened to further undermine Spain's ability to borrow Wednesday, as lenders demanded yields that neared the seven per cent level that forced Greece, Ireland and Portugal to accept bailouts.

Effective interest rates on Spain's 10-year bonds hit 6.32 per cent in afternoon trading.

"Right now there is a serious risk that (investors) will not lend us money or they will do so at an astronomical rate," Mariano Rajoy, Spain's prime minister, warned lawmakers.

Rajoy said the country faced the danger of being locked out of international markets as investors continued to fret about the future of the euro and Greece's place in the 17-country eurozone.

"The spread has risen a great deal, which means it's very difficult to finance oneself and to do so at a reasonable price," Rajoy told Parliament.

Later in the day, in Ottawa, Finance Minister Jim Flaherty said the eurozone is reaching a turning point but that the departure of Greece is not yet inevitable.

Flaherty told the Senate Finance committee he's concerned failure to resolve the issue could have serious rebound effects on the Canadian banking sector and economy.

Investors are getting increasingly concerned about the survival of the single currency and whether the Spanish government can push through its deficit-reduction plan at a time of recession and mass unemployment.

At one stage, the yield demanded by investors for Spanish 10-year bonds rose to more than five percentage points above equivalent German bonds, the highest spread since the euro was introduced in 1999.

"The euro needs to be strengthened. I don't want Greece to leave the euro," Rajoy said."I think that would be a big mistake, very bad news, and I believe public debt sustainability must be guaranteed and all of us must fulfill our commitments."

Prime Minister Mariano Rajoy, shown last week, says Spain faces being locked out of international bond markets. (Paulo Duarte/Associated Press)

In Greece, political leaders were meeting to agree on an interim government led by Greek Council of State Panagiotis Pikrammenos until elections can be held on June 17.

The administration will not be allowed to make any internationally binding decisions.

That caretaker status at a time of crisis, the fact Greek voters may elect a government which rejects continued austerity measures, and reports of depositors moving their money out of Greek banks are worrying investors.

The measures are a condition of continued bailouts from the European Union and the International Monetary Fund which, if discontinued, would likely force Greece to exit the eurozone and try to deal with its debts with its own, devalued, currency.

But if Greece leaves the euro, then a precedent would be set that could be taken up by other countries burdened by high debt levels.

Those worries have resulted in investors demanding higher returns from Spain and Italy.

Italian yields also rise

Italy's 10-year yields rose to 5.85 per cent Wednesday.

Later Wednesday, the European Central Bank said it will temporarily suspend lending to some Greek banks, and push that responsibility to the Greek central bank, to limit its risk while the country’s leaders organize the new election.

The euro fell 0.15 per cent to $1.2710 US late in the afternoon. Earlier in the day, it traded at $1.2681, the lowest level since Jan. 17. 

In Spain, two of the country's main problems are overspending by regional governments and banks burdened with billions of euros in bad loans following a real estate crash that started in 2008.

A major concern is that bank failures might swamp public finances and that the government will be unable to carry through its austerity measures and reforms.

"Now, more than ever, it is necessary for the European Central Bank — the only entity with enough firepower to stabilize debt markets — to intervene consistently by buying bonds, not just Spanish ones but probably also Italian ones, and from then on give clear signals that maintaining the eurozone is a priority because otherwise Europe could fall apart," Emilio Ontiveros, head of Madrid-based consultancy AFI, said.

ECB head Mario Draghi said nothing about bond buying Wednesday but did say that the "strong preference" of the ECB's leadership is for financially-troubled Greece to stay in the euro.

"I want to state that the governing council's strong preference is that Greece will continue to say in the euro area," he said in a speech Wednesday at a conference in Frankfurt.

With files from The Canadian Press and The Associated Press