Euro under new pressure after Spain's debt rating is downgraded
• Markets set to fall after ratings agency Fitch strips Spain of AAA score
• French debt rating also threatened, says budget minister François Baroin
Spain's Jose Luis Rodriguez Zapatero struggled to gain support for austerity measures. His government may also face a general strike. Photograph: Paul White/AP
The euro is expected to come under further pressure tomorrow as Spain's minority government teeters on the brink of collapse and traders fear contagion throughout the eurozone after a senior French minister admitted that his country's top-notch credit rating was under threat.
Stock and debt markets are likely to take a battering after the decision on Friday by the ratings agency Fitch to strip Spain of its coveted AAA credit score, the second downgrade in a month.
Fitch's decision was announced after the markets in Europe closed, so traders will have their first chance tomorrow to react, although London and New York will be sidelined by bank holidays.
Weekend polls in Spain showed that support for austerity measures introduced by the government of José Luis Rodríguez Zapatero is vanishing fast, with many voters believing that he will be forced to call an early election. Zapatero's administration, which squeezed a new cuts package through parliament by only a single vote last week, also faces a potential general strike. A deadline to agree a deal over labour reforms is looming this week.
Pressure on the country's banking system is also increasing. Spain's second-biggest savings bank, Caja Madrid, and five smaller lenders were last night racing to complete talks aimed at creating a €228bn (£193bn) banking group before a midnight deadline set by the government, which wants to see the country's 45 regional savings banks reduced to just over a dozen.
Investors and economists fear that Spain may succumb to a Greek-style debt crisis, putting the very future of the euro in jeopardy as speculators push economy after economy over the edge in a domino effect. Italy, Portugal and Ireland are all seen as likely next targets, and even the largest European economies are coming under increasing pressure.
In a television interview with Canal+ today, France's budget minister, François Baroin, admitted that "the objective of keeping the AAA rating is a stretch, and it is an objective that, in fact, partly informs the economic policies we want to have".
The French government is trying to reform state pension benefits, having already announced that central government spending – apart from pensions and interest payments – will be frozen between 2011 and 2013.
"We must maintain our AAA rating and reduce our debt to avoid being too dependent on the markets, and we must do this for the long term," Baroin said.
In the UK, the weekend's resignation of the Treasury chief secretary, David Laws, is likely to be pored over by ratings agencies this week. Laws was a prime mover behind plans to curb public spending in order to get the public deficit under control, and his departure will be seen as a blow to the coalition government. Ratings agencies have already made it plain that they will be keenly watching the UK's 22 June budget.
In Spain, meanwhile, the most pressing issue for the minority government is labour reform. The deadline, initially set for tomorrow, has been pushed back a week because the three parties involved – the government, business and unions – could not agree. However, Zapatero's administration has made it plain that if agreement cannot be reached, the government will propose its own changes at a cabinet meeting scheduled for 11 June. Union leaders have warned that if reforms are imposed, rather than negotiated, they will hold a general strike.
A poll conducted for El Mundo, the right-of-centre newspaper, showed that Spain's opposition Popular party (PP) would grab a 45.6% share of the vote in an immediate election, 10.5 points ahead of Zapatero's Socialist party. In the election two years ago, the socialists had a three-point lead over the conservative PP. Another opinion poll, published in the El Periodico newspaper yesterday, put Zapatero's party eight percentage points behind the PP.
The government has pledged to reduce the deficit from 11.2% to 3% of GDP by 2013, but parliamentary support is waning. Zapatero's €15bn austerity plan was narrowly voted through, and there are fears that by the time he tries to push through his 2011 budget, in September, support may have vanished altogether. He would then have to rely on backing from smaller parties, such as the Basque Nationalists (PNV), to pass the budget.
The PNV voted in favour of this year's budget but voted against the socialists last week. As a result their support later in the year cannot be relied on, meaning that Zapareto may be forced into an early election, which would cause even greater concern in the financial markets.
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