Spain’s Public Debt Soars to New Highs, Smothering Optimism

Spanish banks have also succeeded in reducing their ECB borrowings. In August, borrowings totaled around E250 billion, a net decrease from the E400 billion borrowed a year ago.

But even though Spain may be in a better position than its other European periphery counterparts, and economists are more optimistic about Spain than they are about the rest, the country still faces some very serious challenges as the worst of the crisis continues to bore its way through the economy, May said.

The high levels of household debt in Spain are a real concern and combined with household savings rates that are now at extremely low levels as a result of the recession will mean that household spending, which is already low, will fall even further.

Credit is also still very tight in Spain, which means that businesses are going to have to deleverage further and that will make them reluctant to invest, according to May. "Although Spanish banks may have better access now to wholesale markets for their funding needs, and are borrowing there rather than using ECB money, it could be that the gradual improvements we have seen in the indebtedness of the banks are actually due to the banks not using the emergency money that they could have used. So rather than extending credit, they may simply be giving unused money back to the ECB," he said.

Overall, Spain's debt dynamics are in a healthier position than Greece's, and whereas Greece will need help for years and years to come, Spain could potentially work its way out of the mess if interest rates don't rise and the Spanish economy continues to stage a decent, albeit slow, recovery going forward.

But even though Spain may be able to solve its problems without financial assistance from outside, such a high level of public debt is not a good thing, and May still has a more pessimistic view on the Spanish situation, believing that there's a real risk of deflation, which will make it harder for both the public and private sectors to reduce their onerous debt burdens.

Although a continued rise in public debt isn't going to set off another Eurozone panic, or prompt the Spanish government to default on its debt, Spain, the country may well end up having to seek financial assistance from the Eurozone to, May said, "to ensure that its public debt return to a stable footing."