12/30/2011 09:06 EST | Updated 02/29/2012 05:12 EST

Spain revises up 2011 budget deficit forecast to 8 pct of GDP; fresh austerity announced

MADRID - Spain's new government warned Friday that the country's budget deficit will be higher than anticipated this year as it unveiled a first batch of austerity measures that include surprise income and property tax hikes.

Following the new conservative government's second Cabinet meeting, the budget deficit for this year was revised up to 8 per cent of national income from the previous government's forecast of 6 per cent.

Alongside the upward revision, which comes amid predictions that the Spanish economy will soon be back in recession, the government, which is headed by Prime Minister Mariano Rajoy, announced further measures to get a handle on its debts, including €8.9 billion ($11.5 billion) in spending cuts .

"This is the beginning of the beginning," government spokeswoman Soraya Saenz de Santamaria said.

She said more reforms and austerity will come in 2012. The conservative Popular Party took power only last week after a landslide election win on Nov. 20 and its main priority is to make sure that Spain doesn't get dragged into the debt crisis mire that has already forced Greece, Ireland and Portugal into seeking financial bailouts and is now threatening much-bigger Italy.

Though Spain's budget deficit is higher than the 3 per cent threshold that was supposedly part of the euro's economic framework, it has so far avoided the same sort of bond market pressure that's currently afflicting Italy, partly because its overall central government debt burden is relatively low at around 66 per cent — Italy's is around 120 per cent.

The yield on Spain's benchmark ten-year bonds stands at just over 5 per cent, lower than Italy's 7 per cent, a rate that is widely-considered to be unsustainable in the long-run.

Nevertheless, Spain has to keep a lid on its borrowings especially with unemployment so high and its regions and households so indebted too.

An increase in the deficit forecast was not a total surprise, but its size was.

Many economists had predicted an increase because the economy stagnated in the third quarter and is now officially forecast to drop back into recession in the first quarter of 2012. Spain's jobless rate is 21.5 per cent, the highest in the euro zone.

Alongside the spending cuts, the new government maintained a freeze on civil servants' salaries and on practically all government hiring.

Taxes will be raised but only for two years. The increase will be progressive and affect all income tax brackets, but the impact on lower-income earners will be minimal, Treasury Minister Cristobal Montoro said.

Spokeswoman Saenz de Santamaria said the jump in the deficit forecast came as a surprise because the outgoing government was slow in turning over some documents, and the new number had to have consequences.

"It is going to force us to take extraordinary measures," she said. "We are confronted with an extraordinary and unforeseen situation which is going to force us to adopt extraordinary and unforeseen measures"

Property taxes were also raised, but only through 2013.

The measures will go before Parliament on Jan. 11. Passage is assured because the Popular Party has a comfortable majority.

The measures are part of an extension of the 2011 budget because the last government did not pass one for 2012.

A bigger austerity whack is expected when the new government passes a full blown 2012 budget by the end of March.


Harold Heckle contributed to this report.