Spain's regions will prove a headache for the government well beyond their immediate need for liquidity as they are set to miss deficit targets and resist new cuts imposed by Madrid, pushing the country closer to a full-scale bailout.
The heavily indebted eastern region of Valencia became the first of the country's 17 autonomous communities to tap a newly established 18-billion-euro rescue fund on Friday. A clutch of other regions are expected to follow suit.
Analysts believe most of the communities will find it hard to rein in their finances, further undermining the country's international credibility and hurting Prime Minister Mariano Rajoy, already reeling from popular protests and relentless market pressure.
Just as with Spain's crippled banks, the regions have been virtually shut out of financial markets for months, relying on government credit lines since early 2012. But investors now believe they could force Spain to seek international aid.
Spain's funding costs jumped to new records on Monday. The yield on the country's 10-year paper reached 7.55 percent while the premium investors demand to hold Spanish long-term bonds rather than German benchmarks rose to 646 basis points, its highest level since the launch of the euro in 1999.
"We believe that it is highly likely that regions as a whole will deviate from the deficit-limit target of 1.5 percent (of GDP) for 2012 by one percentage point, which will further increase the extent of the fiscal consolidation they will need in the coming years," said Marisol Blazquez, analyst at Moody's.
According to data released by the government for the first three months of the year, nine regions out of 17 are set to miss this target: Andalucia, Cantabria, Catalonia, Extremadura, Galicia, Madrid, Murcia, Navarra and Valencia.
The ratings agency, which welcomed the central government credit support to the regions, cautioned that the austerity measures would only push the country further into a deep recession, dry up tax revenues and make it more difficult to balance the budgets.
Moody's also said the government may not have the tools - or the willingness - to force the regions to meet their targets.
"Although the central government has indicated on many occasions that it will take control of the budget of a region that deviates from the deficit target, it remains to be seen if and how such a takeover would be put into practice," it said.
Under a new budget and stability law Madrid has the power to intervene in a region's accounts, but government sources say it will try to avoid that through talks with provinces.
"The Treasury is trying to avoid giving the image of confrontation and is checking the accounts of the regions that might be close to missing their objectives so as to avoid a formal warning," a source said.
Intervention would also be challenging politically, especially in wealthy regions such as Catalonia that have a strong independent voice and could withdraw their support for the central government's People's Party.
In a sign of growing opposition, the government approved last week a new 65-billion-euro austerity package with the backing of no other national or regional party.
It also faced widespread criticism when it set new deficit targets for the 17 autonomous regions on July 12.
While the goals for the regions were left unchanged this year and tightened next, the central government's deficit target was relaxed by up to one percentage point following increased European Union flexibility on the objectives.
The regional backlash against the government's new measures was even seen in two regions controlled by the governing PP, Extremadura and Castilla y Leon.
Both abstained on the vote for revised regional budget goals, although they have since rolled more back into line.
"TRIP TO HELL"
The regions, which are responsible for their healthcare and education budgets, and together with local authorities account for around half of all public spending, have already implemented several spending cuts plans.
Some of them are now reluctant to make further cuts.
"The regions are being asked to make double the effort that corresponds to us, and the state half of what it should do. So we should hold firm, and all of the regions should do too as it's a total disloyalty by the state," said Artur Mas, head of the Catalan parliament last week.
Heavily indebted Catalonia was the first region to start making cuts and is committed to meeting deficit targets, but wants a fairer distribution of the cuts.
Despite the rebellion, regions have little room to actually throw out measures as they know that financing from the central government could run dry if they do.
Basque leader Patxi Lopez said recently that the latest wave of austerity, which includes cuts to civil servant wages, would harm the most vulnerable in society leading them on a "trip to hell" that would not serve to stimulate a faltering economy.
Yet a spokesman for the region said on Friday that the region was committed to making cuts, and would meet legal obligations set.
© 2022 Thomson/Reuters. All rights reserved.