Analysis: Spain's new govt faces mammoth task, must move fast

MADRID (Reuters) - Spain's People's Party's (PP) resounding electoral victory gives the center-right a clear mandate to turn around the battered economy but with a debt crisis deepening across the euro zone, they will need to work fast to stop the rot.

Sovereign financing costs hit unsustainable levels last week for Italy and Spain and new Spanish leader Mariano Rajoy, who will not officially take the reins until December, cannot delay detailing his plans if he has any hope of easing market jitters.

But with Spain teetering on the edge of its second recession in two years, one of the highest budgetary shortfalls in the region and unemployment at 15-year highs -- more than double the EU average -- Rajoy has a mammoth task ahead.

"From a market standpoint, an absolute majority for the PP is just what the doctor ordered...The risk, however, is that more retrenchment pushes the economy back into recession. Rajoy will have to tread very carefully given the dire state of Spain's economy," said economist Nicolas Spiro of Spiro Sovereign Strategy.

"We will now see to what extent domestic policy reforms, even if ambitious and swiftly enacted, can help turn sentiment around."

Rajoy said in his victory speech he would immediately call the country's 17 regional government leaders together to find a joint economic solution.

Over-spending regional governments are expected to make the public deficit target of 6 percent of gross domestic product for this year impossible, with most expecting over 7 percent.

This will make Rajoy's pledge to stick to the 4.4 percent target for next year a tough one to meet and analysts say the necessary spending cuts could mean delaying any economic recovery for years.

LATEST CRISIS VICTIM

Spain's Socialists are the latest European government to be toppled by voter ire over the handling of the crisis, with market-friendly administrations now in place in Greece, Italy, Portugal and Ireland.

Rajoy is expected to team up with Zapatero to announce contingency measures before he takes office, but with the crisis spreading to France and Italy, the bloc's second and third largest economies, Spain is only part of part of the problem.

The details of the European Financial Stability Facility (EFSF), the bloc's rescue fund, are still undecided and the European Central Bank says it will not act as a lender of last resort.

Without the unlimited backing of the ECB, only convincing measures by member states to make the euro zone, the world's second-largest economy, competitive and sustainable will bring back investors spooked by perceived dithering in the face of collapse.

Spain's change in government comes less than a month after the resignation of Greek Prime Minister George Papandreou and Italian leader Silvio Burlusconi. Both were replaced by technocrat leaders sensitive to investor worries.

Rajoy's first moves this week, if handled correctly, could help convince skeptical investors unnerved by euro zone leaders' apparent inability to ring fence the crisis that a solution can be found by member states.

Spain's new government is no longer tied by a need to seek regional consensus to pass difficult measures, but it must show it is willing to follow through.

"This could calm the markets, but until the new government does what it says it's going to do, nothing will change," an analyst at Madrid think tank Funcas, Angel Laborda, said.

"We'll have to see if the change in now three countries, Italy, Greece and now Spain, can make a difference. Spain, together with their euro neighbors, can help to solve the problems in the euro zone," he said.

(Reporting by Paul Day; Editing by Angus MacSwan)