Spain and Portugal under fire as bond spreads hit record

Saxo Bank said the EU's ?370bn bail-out fund would lose its AAA credit rating if Spain needed serious help Photo: PA

Yields on 10-year Portuguese bonds jumped to 6.9pc, replicating the pattern seen in Greece and Ireland just before they capitulated and turned to the EU and the International Monetary Fund.

Spreads on 10-year Spanish bonds rose to a post-EMU record of 233 basis points over Bunds, pushing the yield to 4.87pc. Spain's central bank governor, Miguel Angel Fenrandez Ordonez, said the contagion had spread rapidly to the eurozone periphery and "made itself felt" in the Spanish debt markets. He called on Madrid to accelerate fiscal reforms to persuade the markets the country really means to put its house in order.

"Spain is a bit too big to be bailed out," said Antonia Garcia Pascual, of Barclays Capital. "The size of rescue required would use up all the funds available and then you have Italy with contagion as well."

Saxo Bank said the EU's €440bn (£370bn) bail-out fund would lose its AAA credit rating if Spain needed serious help. Germany and France would have to put up fresh money, creating a political storm.

German Chancellor Angela Merkel admitted on Tuesday that the eurozone was "facing an exceptionally serious situation". She brushed aside criticism that German insistence on bondholder "haircuts" from 2013 was fuelling the crisis. "I will not let up on this because the primacy of politics over markets must be enforced," she said.

Dutch finance minister Jan Kees de Jager sent a further chill through markets, saying "holders of subordinated bonds in Irish banks will have to bleed" under the Irish rescue. The comment touched a neuralgic nerve, heightening fears that investors may be treated harshly under the bail-out terms for any other country needing a rescue.

Bank of Ireland shares crashed 23pc and Allied Irish Bank's fell 19pc on fears that shareholders will be wiped out. Ominously, there was a sharp sell-off of Spain's two top banks, with Santander down 4.7pc and BBVA down 3.9pc.

Markets, further unsettled by the tensions in Korea, fell around the world. The FTSE 100 closed down 1.75pc at 5581.28. In Spain the Ibex index fell 3pc, while in France the CAC lost 2.5pc.

"The Irish rescue has done absolutely nothing to calm the markets: it has done the opposite," said Elizabeth Afseth, a bond expert at Evolution. "It is dangerous to talk about creditor losses. Investors will be very wary of lending to Portugal. It looks as if Europe is going to push this to the edge of the cliff."

EU president Herman Van Rompuy denied that Lisbon needs a lifeline, insisting that Portugal's banks are well capitalised and do not face property losses. "Portugal does not need any help – it is in a very different situation to Ireland," he said.

However, Portuguese banks have been shut out of the capital markets. The country's total debt level is one of the world's highest, at 325pc of GDP, and it has a current account deficit of 10pc – which requires a flow of external funding.

The euro fell to a two-month low of $1.3380 against the dollar, in part fed by fears of paralysis in Ireland as the crumbling coalition unveils a four-year austerity drive and tries to push through budget cuts before an election next year. Opposition parties said premier Brian Cowen no longer had the authority to act for the nation, while rebels in his own Fianna Fail party demanded his resignation.

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