MADRID — Financial pressure is mounting on Spain as its economy shrinks and the cost of bailing out banks and regional governments grows. Investors pushed the country's borrowing rates to alarming heights Monday amid concern that the government could be overwhelmed by debt and forced to seek an international bailout.
The interest rate, or yield, on Spain's 10-year bond spiked 0.22 percentage points to 7.45 percent. That is the highest level since the euro began in 1999 and is considered unsustainable for more than a few months.
Concern over Spain increased after the central bank said Monday that the economy contracted by 0.4 percent during the second quarter. The government predicts the economy will keep contracting into 2013 as new austerity measures — such as tax hikes and benefit cuts — hurt consumers and businesses.
Investors also worry the government will face new costs to help its ailing banks and regions. Spain has asked for a eurozone bailout package of up to $121 billion to save the banks, but is ultimately liable to repay the money if the banks do not.
The eastern region of Valencia revealed Friday it would need a bailout from the central Madrid government. Over the weekend, the southern region of Murcia said it may also need help. Speculation is now strong that several other cash-strapped regional governments may follow.
The problem is the central government is facing high borrowing costs, too.
If those borrowing rates do not fall, the central government may end up being locked out of international markets and be forced to seek a financial rescue, like Greece, Ireland and Portugal.
"The higher the yield goes, the more untenable the situation becomes," said Rebecca O'Keeffe, head of investment at Interactive Investment.
Spain is the fourth-largest economy in the eurozone, bigger than Greece, Ireland and Portugal combined. A debt default by Spain would rock global financial markets and threaten the existence of the euro currency. That's why finding a way to lower its borrowing rates is crucial for the financial well-being of Europe and the global economy.
On Monday, the euro slipped just below $1.21 against the dollar, its lowest since June 2010.
Spain has called for the European Central Bank to take emergency action to ease its government borrowing rates. In the past, the ECB has bought bonds on the open market, lowering their yields, or interest rates. But these measures have over the past two years only temporarily lowered government borrowing rates. The ECB claims the measures are not effective in fighting the crisis and that governments need to take action by, among other things, sharing countries' debt loads.
Economy Minister Luis de Guindos insisted Monday that Spain would not need a sovereign bailout and said the intense market pressure throughout Europe was due to uncertainty over the future of the single euro currency.
"There are situations of irrationality in the short-term behavior of the markets, extreme nervousness which can't be resolved by governments and must be sorted out from other angles," he said.