* Election results show prime minister’s party defeated
* Unpopular govt slashed budget to rescue economy from crisis
* Lithuania an early covert to austerity as crisis solution
* Leader of winning party says may run looser fiscal policy
By Andrius Sytas and Christian Lowe
VILNIUS, Oct 15 (Reuters) - Lithuania’s newly-elected opposition tried to reassure financial markets on Monday it will not throw away fiscal prudence, after voters fed up with four years of harsh austerity measures ejected the government.
An ex-Soviet state of about three million people, Lithuania crashed hard when the crisis hit four years ago.
It slashed spending in response and, after a brutal recession, is now returning to economic health - but too late for voters who have seen their spending power eroded and unemployment soar.
The failure of the government comes despite widespread praise abroad for a more resolute course on cutbacks than that taken by Greece and other euro zone countries struggling with debt.
The left-leaning coalition now likely to take over after Sunday’s parliamentary election has promised to ease the pain by raising the minimum wage, shifting the tax burden towards the better off and postponing adoption of the euro.
One coalition leader told Reuters the budget deficit might, at a later date, be allowed to go above the level that euro zone policymakers view as prudent.
But the new government will have to walk a tightrope between pleasing voters and keeping markets happy.
Lithuania is still heavily indebted, and if debt markets - which welcomed its predecessor’s austerity drive - do not trust the plans to ease the belt-tightening, the cost of borrowing could go up so high the country plummets into another crisis.
Algirdas Butkevicius, the former finance minister who leads the opposition Social Democrats and is in the running to be new prime minister, said any softening of austerity would be gradual.
“Our position is not be spending lavishly with borrowed money,” he told a news conference on Monday. “First you have to earn money to get higher revenues for budgets.”
Credit default swaps tightened by three basis points on Monday, according to data from Markit, meaning the cost of insuring Lithuania’s debt against default went up slightly.
Market analysts said there was no immediate cause for alarm, but that there could be a negative reaction if further down the line the new coalition abandons turns out to be less thrifty than it says it will be.
With most votes counted early on Monday, it was clear the centre-right government of Prime Minister Andrius Kubilius had lost - having won praise from big European powers and the International Monetary Fund for its thrift.
“If the IMF was voting then he (the prime minister) would be re-elected,” said Kestutis Girnius, who teaches at the Institute for International Relations and Political Science in Vilnius.
“But the IMF does not live in Lithuania, and they could not live on a Lithuanian salary.”
As one of the EU states hit hardest by the crisis, Lithuania was also an early convert to the austerity measures that have become the standard policy response to the debt turmoil that has spread across the region.
Before the crash of 2008, Lithuania was booming. Scandinavian banks provided cheap credit which let the country buy more than it sold and overheated the real estate market.
When the crisis struck, the banks stopped lending. Economic output dropped by 15 percent in 2009, unemployment shot up and thousands of young Lithuanians went abroad to seek work.
The government cut pensions and public sector wages. To save money, only every third street lamp in Vilnius was lit, and fuel for police cars was rationed.
This discipline helped the economy rebound. Gross domestic product grew 5.8 percent last year, one of the fastest rates of any EU economy. The budget deficit has been tamed. Yet most Lithuanians feel worse off than they did four years ago.
“What kind of crisis management are we talking about?” asked Alfonsus Spudys, 78, after he voted on Sunday in the capital, Vilnius. “They scythed people down ... and now they are saying they handled the crisis really well.”
Votes counted from about three-quarters of districts showed the opposition Labour Party had 21 percent, followed by its likely coalition partner the Social Democrats, with 19 percent.
The prime minister’s Homeland Union had 13 percent.
The final outcome will not be clear until a second round in two weeks to settle local races where there was no outright winner, though that is unlikely to change the overall picture.
Labour Party leader Viktor Uspaskich, a Russian-born businessman, said the coalition would stick for now to a deficit under three percent of gross domestic product, but that this could be exceeded later.
Lithuania, which takes over the EU’s rotating presidency in the second half of next year, needs to keep debt markets on its side, not least because it has to repay a 1 billion euro Eurobond in March.
In a non-binding referendum held alongside Sunday’s election, about 60 percent of voters rejected a plan to build a 6.8 billion euro nuclear power station, incomplete results showed.