UPDATE 3-Spain, Belgium debt costs spike; investors covet Bunds
* Madrid sells 12-mth, 18-mth T-bills
* 12-mth yield 5.022 pct, highest since 1997
* Belgian 12-month auction yields at 3-yr high
* Debt investors flee ever deeper into euro zone core
By Paul Day and Robert-Jan Bartunek
MADRID, Nov 15 (Reuters) - Spain paid yields not seen since 1997 and Belgian borrowing costs hit three-year highs at short-term debt sales, as ebbing confidence that the euro zone crisis can be tamed sent bond investors scurrying ever deeper into the region's core.
Driven by renewed concerns that Italy, the euro zone's third largest economy, will still need a bailout despite appointing a former EU commissioner to head a revamped government, contagion from the debt crisis spread wider.
That caught Madrid and Brussels right in the firing line at Tuesday's auctions.
Solid demand allowed Spain to sell 3.2 billion euros of 12- and 18-month T-bills, but both yields -- at 5.022 percent and 5.159 percent, respectively -- hit their highest at a primary auction since 1997.
Belgium raised 2.725 billion euros, with three-month yields at 1.575 percent, the highest since January 2009, and 12-month paper selling at a three-year high of 3.396 percent.
David Schnautz, an interest rate strategist at Commerzbank, said short-term debt issued by euro zone nations had previously been far less affected by safe-haven flows than longer-term paper.
"But this has now changed..... We saw Italy at 6 percent last week and Spain today at 5. In this environment Belgium is not treated as badly, but it takes its toll," he said.
"Contagion is spreading more and more into the (euro zone) core."
Only Germany stayed immune from investor concerns, with its sovereign yield premium over the region's other top-ranking debt widening, in some cases to record levels.
AAA-rated France's spreads rose to their highest levels in over 20 years at 189 bps, and the cost of insuring French, Italian, Spanish and Belgian debt against default rose to all-time highs.
The Spanish 10-year premium over Bunds rose 7 basis points to 460 bps after the auction, an intraday euro-era peak and their widest since July 1995, according to Reuters data.
The equivalent spread for Belgium, confronting a debt-to-GDP ratio around 100 percent in a domestic political vacuum, pushed up to a euro-era record 300 bps.
Shorter-term debt sales are often propped up by the need of domestic banks to park cash, so for Spain a yield above 5 percent on one-year paper points to longer-term rates rising towards 7 percent, a level generally viewed as unsustainable.
Spain's ability to borrow on markets over longer periods faces an early test on Thursday at an auction of between 3 billion euros ($4.1 billion) and 4 billion euros of a new benchmark 10-year bond.
"The frightening part is just how much yields have risen since the (Spanish bill sale). That is a colossal rise, it does really emphasise just how much anxiety there is," strategist at Monument Securities Marc Ostwald said.
"In terms of the actual yields, it doesn't bode well for Thursday's sale."
General elections in Spain on Sunday, which the opposition centre-right is expected to win comfortably, have also stoked uncertainty over the euro zone's fourth largest economy, hamstrung by a high fiscal deficit, anaemic growth rates and chronically high unemployment.
"If the new government needs to borrow at these levels for the short term it won't be so bad and they'll be hoping a new wave of measures will help calm things down," economist at Capital Economics Ben May said.
"There is a risk, of course, this won't happen."
Some economists said the fact the Spanish Treasury was able to sell paper in current market conditions, even at a high price, was encouraging.
"On average, the T-Bill auction is a positive signal for the market that investors are still buying Spanish debt despite concerns as to what will happen after the elections," analyst at Newedge in London Annalisa Piazza said.