BRUSSELS Economic experts watching Spain don't know how much money will be needed or precisely when, but some are near certain that Madrid will eventually seek a multi-billion euro bailout for its banks, and perhaps even for the state itself.
Prime Minister Mariano Rajoy has repeatedly said Spain doesn't need or want an international bailout, and the European Union, which along with the IMF has already rescued Greece, Ireland and Portugal, also dismisses such talk.
But economists believe that Spanish banks will have to turn to the euro zone's rescue fund, the European Financial Stability Facility (EFSF), for help in covering losses caused by a property market crash which has yet to end.
Likewise, investors are fretting about how Rajoy's centre-right government can enforce deep austerity while reviving a recession-bound economy at the same time.
"They're going to need EFSF money to recapitalize the banking sector," said Carsten Brzeski, a senior economist at ING in Brussels. "I think we'll only see a real end to the Spanish misery if the real estate market stabilizes."
Madrid is likely to hold out for some time. "The underlying picture in Spain is dramatic, but is it dramatic in the way that it needs a bailout package tomorrow? No," Brzeski said. "But if you look ahead, let's say the next six months, I would not be surprised if they (the banks) have to get some kind of European support."
Market concerns about the euro zone's fourth largest economy have deepened in the past week. Yields on the government's 10-year bonds, which reflect the risk investors attach to owning Spanish debt, have risen above 6 percent, a level that has proved a trigger point for other troubled euro zone countries.
At the moment the EU is backing Madrid. Jean-Claude Juncker, who chairs the Eurogroup of euro zone finance ministers, said Spain was taking the necessary steps to get its economy back on track, despite a recession and unemployment at 24 percent.
"I don't think Spain will need any kind of external support," Juncker said. "I would like to invite financial markets to behave in a rational way. Spain is on track."
German Finance Minister Wolfgang Schaeuble also rejected comparisons with countries which are already on bailout programs. "The fundamental data in Spain is not comparable to those in the countries that are under a program," he told Reuters. "Spain needs to work to win confidence, however, if the positive developments are to continue."
Markets took fright earlier in the year when Rajoy relaxed his government's targets for cutting the budget deficit.
However, not all economists are so pessimistic and some say the four-month-old government is starting to knuckle down to meeting the new targets, which still demand deeply unpopular austerity, and tackling the economy's structural problems.
"We've seen more progress in a few days than in four months," said Gilles Moec, a Deutsche Bank economist. "It's a country that's intrinsically sustainable, but it's a country that needs to make decisions."
Others beg to differ and fear Spain will drag in Italy, which has suffered similar problems with rising borrowing costs.
"As I look at my screen and Spain 10-year yields are up at 6 percent - things are starting to get worrying again," said Peter Westaway, chief economist for Europe at Vanguard, an investment management firm overseeing $1.8 trillion in assets.
"If they go up to 6.5 to 7 percent, that could become very problematic, and if Italy started to go back above Spain again, then that would be really serious."
Spain has one thing on its side. It has already raised nearly half the 86 billion euros it needs to borrow from financial markets this year, sucking up some of the 1 trillion euros of cheap three-year loans that the European Central Bank has pumped into the euro zone banking sector.
This means the government could hang on for months before having to turn to the EU for help with its own funding needs.
A 380 BILLION EURO PROBLEM
However, that still leaves the banks. One of the critical "unknowables' for Spain is just how bad a situation its banks are in. The Spanish housing market, once a driver of the economy, has been in turmoil for more than four years, but prices still haven't fallen as much as economists think is needed to squeeze the air out of the bubble.
Only when prices have bottomed will assessors be able to calculate how just much bad mortgage debt is sitting on the banks' balance sheets, and therefore how much extra capital the sector requires to return it to health.
"Prices have dropped by about 15-20 percent from peak to now and they will probably have to drop another 15-20 percent before they reach bottom," said Brzeski. He estimates Spanish banks may need as much as 80 billion euros of extra capital once all bad mortgage debt is accounted for.
In a paper published this week, Daniel Gros and Cinzia Alcidi of the Centre for European Policy Studies estimated that the total accumulated overhang in the Spanish property and construction sector is more than 380 billion euros - equivalent to 37 percent of GDP. (here)
"A housing overhang per se does not have to lead to an acute financial crisis if it was financed by domestic savings," they write. "Unfortunately this is not the case in Spain."
As a result, economists expect Spain's banking sector will have no choice but to recapitalize.
The government is unlikely to fund such an operation while it is trying to slash the budget deficit, and private investors are reluctant to invest in such a troubled sector.
That leaves the European Financial Stability Facility as the most likely option for the banks - and possibly also for the government eventually.
"Spain is not going to run out of cash (yet) and it's pre-funded its borrowing requirement," said Megan Greene, a senior economist and euro zone specialist at Roubini Global Economics. But she added: "There's a chance that the banking bailout could come sooner, but I really think it's going to be next year."
Even if it does hang on until 2013, Greene still expects Spain to need both a banking and a sovereign bailout - a program similar to that provided to Ireland or Greece.
"The banking sector is only one piece of the puzzle in Spain," she said. "A banking bailout could deal with one part of the problem, but eventually the sovereign is going to need a bailout too."
WHAT TO DO WITH ITALY
Doubts persist that the euro zone is any better placed to handle a rescue of Spain than it was two years ago, despite having already bailed out the three other countries and having set up an 800 billion euro fund to tackle the problems ravaging the region's economy.
"When it comes to deciding how to deal with Spain, I really think they are back to the drawing board," said Greene. "They basically haven't learnt anything from the first three bailouts."
Then the problem for euro zone policymakers will be what to do about Italy, the eighth largest economy in the world, with GDP 50 percent larger than Spain's.
For months, Spanish government bond yields and those in Italy have moved in near lock-step, reflecting the twinned risk investors see in both southern European states.
"Spain and Italy are inextricably tied," said Greene. "If Spain gets a bailout then the EU needs to be ready to provide support to Italy too."
(Additional reporting by Julien Toyer in Madrid and William James in London; editing by David Stamp)