ECB sees Spain’s debt rising above GDP if austerity fails

The European Central Bank estimates that Spain’s outstanding public debt could exceed 100 percent of GDP if the government fails to fulfill its fiscal adjustment commitments to bring the deficit back within the European Union’s ceiling of three percent of GDP.

In its monthly bulletin released Thursday, the ECB said if the austerity drive of the government of Prime Minister Mariano Rajoy delivers only half of what it promises to achieve, the debt/GDP ratio could rise to 104 percent of GDP in 2006, three times the level that existed before the current economic and financial crisis broke.

Spain has pledged to lower the public deficit from 8.5 percent of GDP last year to 6.3 percent this year and to 4.5 percent in 2013 before bringing it back within the EU cap the following year. The country will have to achieve these goals at a time when the economy is expected to shrink 1.5 percent this year and continue to contract in 2013.

The main reason behind the expected jump in Spain’s level of indebtedness from levels of 68.5 percent of GDP last year is the bailout of up to 100 billion euros granted by Europe to recapitalize the Spanish banking system.

The first scenario envisaged by the ECB involves lower-than-expected growth levels in which GDP contracts 1.5 percent in 2013 before growing 0.2 percent in 2014 and 0.9 percent in 2015. Under this framework, the debt/GDP ratio would peak at 99 percent in 2015 and decline to 88 percent by 2020. The third scenario analyzes what would happen if interest rates begin to rise next year from current historic lows. In this case the debt/GDP ratio would peak at 96 percent in 2015 and fall to 85 percent by 2020.

The ECB highlighted “growth-enhancing structural reforms” as a key factor in improving debt sustainability.