Spain found it increasingly difficult to find buyers for its debt Tuesday when it had to pay a sharply higher interest rate in an auction of short-term bonds, highlighting growing concerns that the country might eventually need foreign help to finance itself.

The Treasury raised €3.39 billion ($4.37 billion Cdn) in 12- and 18-month bills — more than its upper target of €3 billion — and while demand was robust, the borrowing costs skyrocketed.

The interest rate, or yield, on the 12-month bills rose to 5.07 per cent from 2.98 per cent at the last such auction on May 14. The rate on the 18-month bills soared to 5.10 per cent from 3.3 per cent.

Marc Ostwald of Monument Securities said that while Spain met its sale target for the debt auction on Tuesday, "the yields at which these were sold can only be described as prohibitively expensive."

In the secondary market, where issued debt is traded openly, the yield on 10-year Spanish bonds remained perilously high and above the seven per cent level for much of the day.

But the rate closed at 6.99 per cent, down 0.13 percentage points from the previous day. Stocks finished up 2.7 per cent on Madrid's main index.

Worries about Spain's ability to repay its debt grew last week when the country agreed to accept a eurozone loan of up to €100 billion to shore up its ailing banks, which are sitting on massive amounts of soured real estate investments.

'The yields at which these were sold can only be described as prohibitively expensive.'—Marc Ostwald, Monument Securities

The big fear is that, as the money will count as a loan and raise Spain's overall debt load, the country's financing costs will suffocate the government as it tries to wade its way through a recession and a 24.4 per cent jobless rate.

If Spain is pushed into paying such high rates for short-term debt, it not only needs a eurozone rescue package for its banks but "an outright bail-out package," Ostwald said.

"It is becoming very difficult to see how it can manage without that beyond the end of the third quarter, unless yields fall dramatically!"

Spain can survive the current high interest rates for weeks or even months, analysts say, but not in the longer term.

If it becomes clear that the borrowing rates will not come back down, Spain will likely have to ask for a European bailout — money that would come at lower interest rates than those offered by bond markets.

The problem is that Spain's €1.1 trillion economy is the eurozone's fourth-biggest and larger than those of bailed-out Greece, Ireland and Portugal combined.

The Spanish economy minister, attending the Group of 20 world leaders' summit in Mexico, said the country is being punished unfairly in debt markets.

Second audit report delayed

"We in the government are convinced that the current situation of punishment in the markets, what we're suffering from today, doesn't correspond with the efforts, or the potential, of the Spanish economy," Luis de Guindos said Monday.

"This is something that will have to be recognized in the coming days and weeks."

Spain is waiting for the two independent audits of its banks, due to be presented to the government Thursday, to determine how much of the €100 billion eurozone rescue loans Spain will tap.

Investor sentiment toward Spain will in coming days depend upon the sum of loans demanded as well as any support measures announced by European leaders.

Markets were also rattled ahead of the auction by news that the second part of the audit has been delayed from late July to September.

Michael Hewson, senior market analyst at CMC Markets UK, said the rise in the Spanish 10-year bond rate this week "once again puts Europe's fourth largest economy squarely in the cross hairs as the probable next candidate for a bailout."

"Fears about growing bad debts and deposit outflows from Spanish banks have proved a toxic combination as European leaders dither on what the next steps in the crisis should be."