A $125 billion bailout package arranged for Spain to prop up the country's banks gives Madrid a fighting chance to avoid seeking rescue to avoid defaulting on its broader sovereign debt, says Mark Zandi, chief economist of Moody’s Analytics.
Sovereign defaults can send major shockwaves across global markets.
"I think they have at least even odds of doing that — of stabilizing the economy and avoiding a bailout," Zandi tells The Wall Street Journal.
Eurozone finance ministers arranged the bailout for Spain to recapitalize its banks, which are still reeling from a real estate bust a few years ago.
Whispers are growing that banks in the larger Italian economy may need rescuing as well, and the bailout of the Spanish banking system serves as a "partial road map for trying to help the Italian banks and other banks in Europe."
Fortunately for Italy, borrowing needs there are lower than in Spain, while private-sector debt is in reasonably good shape.
"I think Italy has better-than-even odds of making their way through this without stumbling," Zandi says.
Many debt-ridden countries such as Greece and Spain have enacted austerity measures to streamline their economies, with belt-tightening measures including tax hikes and wage cuts, policies that Zandi describes as counterproductive.
While austerity measures may narrow deficits, they cut into growth and exacerbate economic downturns, often making weak economies even weaker.
"It’s pushing countries like Greece and Spain – perhaps even Italy – in a way that’s not helping anyone’s cause," Zandi says.
Governments do need to tackle get deficits balance budgets, "but if you try to do it too quickly, it’s just not going to work."
Market relief over the Spanish bailout was short-lived, as worries returned quickly.
Greece will hold parliamentary elections on June 17 and a strong showing among leftist politicians could produce a coalition government in favor a ditching austerity measures, which could open the door to a Greek exit from the eurozone.
Italy, home to Europe's highest debt-to-GDP ratio after Greece, may need a bailout for its banks as well, and due to its sheer size, rescue may be tough.
"Where next? 200 or 300 billion euros for Italy? (The Spanish bailout) is just compounding the agony," says Nick Hocart, a director at currency fund manager Xenfin in London, according to Reuters.
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