Euro zone okays Greek aid, demands deeper Spanish deficit cut

BRUSSELS Tue Mar 13, 2012 8:33am EDT

BRUSSELS (Reuters) - Euro zone finance ministers gave their final approval to a second bailout for Greece on Monday and turned their fire on Spain, demanding it aim for a tougher deficit target this year in order to get back on target in 2013.

Greece, the source of the currency bloc's debt crisis, swapped its privately held bonds at the weekend for new, longer maturity paper with less than half the nominal value, a move that cut its debts by more than 100 billion euros.

The exchange paved the way for euro zone ministers to give the final political go-ahead to a 130 billion euro package that aims to finance Athens until 2014. The decision will be formalized by junior officials on Wednesday.

"As agreed, new official financing of 130 billion euros will be committed by the euro area and the IMF for the period 2012-2014," Jean-Claude Juncker, who chairs the Eurogroup of euro zone finance ministers, told a news conference.

Thanks to a high take-up of the bond swap offer, Greece's debt would fall below a target of 120 percent of GDP in 2020, reaching 117 percent, from 160 percent now, he said.

As Greece's financial problems have lost some urgency, Spain has raised a new challenge. After announcing the previous government had missed its 2011 budget deficit target by a significant margin, the new administration said it would not meet the EU-agreed deficit goal for this year either.

Spain was supposed to cut its deficit to 4.4 percent of gross domestic product this year, but said it would only aim for 5.8 percent as it heads into recession. Its deficit in 2011 was 8.5 percent, far above a 6.0 percent goal.

In a statement, the Eurogroup said Spain should strive for a 5.3 percent deficit target this year, cutting it some slack from the initial goal but keeping the pressure on.

"The Spanish government expressed its readiness to consider this in the further budgetary process," it said.

The euro zone is keen that Spain, a far bigger economy than Greece which has so far avoided the need for a bailout, gives the financial markets no whiff of backsliding after Athens has been taken off the critical list, for now at least.

"It will be the responsibility of the Spanish authorities to choose the initiatives that will have to be taken in order to bring down the budgetary deficit in 2012, what is most important is what is the target for 2013," Juncker said.

"What is less important, but nevertheless important, are the avenues chosen in 2012."

LEEWAY?

Madrid pledged it would cut the deficit to 3 percent of GDP next year, in line with the agreed final deadline, but wanted the higher starting point and slower economic growth to be taken into account in determining the path in 2012.

"Spain's position is that two things have changed. The first: last year there was a deviation of 2.5 percent in the public deficit and the second: that the circumstances in terms of economic growth have changed significantly," Spanish Economy Minister Luis de Guindos said.

"Spain's commitment to the fiscal rules is absolute."

The European Commission expects Spain's economy to contract 1 percent this year after growth of 0.7 percent in 2011, a sharp downward revision from the last forecast for 0.7 percent growth.

Several other euro zone countries have committed themselves to meeting budget targets.

Belgium said at the weekend it was sticking to its deficit goals and came up with nearly 2 billion euros of extra spending cuts to make the target - a move that could add to pressure on Spain to stick to its agreed plan. Portugal and the Netherlands are also fixed on meeting their targets.

A stricter EU Stability and Growth Pact, which came into force in December, envisages fines for euro zone countries like Spain which are already running deficits above the 3 percent of GDP ceiling and missing their deficit reduction targets.

Economists believe fierce deficit cutting could be self defeating.

"Given the country's still relatively favorable debt position, we think that a crash fiscal retrenchment should not be the government's top priority," said Deutsche Bank economist Gilles Moec.

He said Spain was successfully addressing its key problem which was its rigid labor market but that the lower wages that could result would likely depress domestic demand further.

"We believe it may be unwise to "front-load" the necessary fiscal adjustment in these circumstances," Moec said. "Waiting for the recovery to take hold in 2013 may ultimately be more beneficial to the underlying state of Spanish public finances."

(Additional reporting by Annika Breidthardt and Robin Emmott in Brussels, Julien Toyer and Fiona Ortiz in Madrid, Writing by Jan Strupczewski. Editing by Mike Peacock/David Stamp)

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