Spain and Greece, currently the two main epicenters of the euro zone debt crisis, are facing bigger deficits than previously forecast amid feeble European growth and political disorder in Athens, the International Monetary Fund said Monday, Wall Street Journal reported.
Higher government deficits should mobilize policymakers into action, the IMF said in a set of report called the World Economic Outlook and the Fiscal Monitor.
Europe needs to move forward promptly to establish a banking union that would allow direct recapitalization of Spanish banks and insulate the region from a potential Greek default. Greek leaders, meanwhile, must scramble to salvage an emergency loan program that has gone badly off track, the IMF said.
Europe΄s recession is taking a larger bite out of Spain΄s finances than the fund expected earlier this year, despite an ambitious budget belt-tightening program by Madrid. Weaker growth has meant lower revenues and higher spending on unemployment and social security.
That has pushed the deficit closer to 7% of gross domestic product, around one percentage point more than the IMF said in April. That΄s not including newly-announced measures to cut the budget deficit.
Spain recently revised its budget deficit target to 6.3% this year, and the European Union said it will give the country more time to meet its target without facing penalties designed to spur member countries to be more disciplined.
The IMF΄s also not including the EUR100-billion ($122 billion) emergency loan the E.U. has promised Spain to inject into its ailing banks, despite the fact that money will sit on Madrid΄s balance sheets until an E.U. banking union allows the loan to be directly injected into banks.
Uncertainty over the details of the banking union is keeping pressure on Spain΄s borrowing prices and market economists say the premium Madrid pays will likely stay near unsustainable levels until the E.U. resolves that issue more definitively. The loan represents almost 10% of Spain΄s GDP.
The IMF also warned that Greece΄s loan program risked being derailed. “Recent deterioration in the political and economic climate in Greece serves as a warning about the potential onset of “adjustment fatigue” which remains a threat to continued program implementation,” the IMF said.
Europe΄s recession worsened Greece΄s already poor program execution, it said. Without further policy changes, the country΄s budget deficit will trend towards 1.5% to 2% of GDP, versus the 1% planned in the latest revised emergency loan program, the IMF said.
The latest tranche of a joint E.U./IMF bailout program has been delayed amid Greece΄s political turmoil, again raising questions about the ability of Athens to pay its debt obligations.
New bills are soon coming due and the IMF is planning to send a team to Athens in the coming week to see how–and if–the program can be put back on track. That could take several weeks, pushing any potential loan salvation to the eleventh hour again.