Jose Luis Rodriguez Zapatero smiles during a meeting with former Federal Reserve Chairman Paul Volcker and Harvard University historian Niall Ferguson, unseen, at the Moncloa Palace in Madrid Monday Jan 31, 2011. (Photo: AP)

MADRID, Spain

Standard & Poor’s has given Spain a welcome boost by affirming its credit rating yesterday, in another sign that the government debt crisis that threatened to sink the euro has come off the boil, at least for the moment.

The agency said Spain’s current, solid AA rating partly reflects the government’s resolve to cut its deficit and enact reforms to make its struggling economy more productive.

That positive review from outsiders comes as a welcome relief for Spain’s hard-pressed government and for worried EU officials as they try to contain a crisis that has already forced Greece and Ireland to take bailout loans from their eurozone partners and the International Monetary Fund to avoid national bankruptcy.

“The ratings on Spain reflect the benefits of what we view as a modern and relatively diversified economy, as well as our opinion of the government’s continuing political resolve to deal with the outstanding challenges,” said Standard & Poor’s credit analyst Marko Mrsnik.

Mrsnik said the country’s rating will remain under pressure for months to come from the high level of private sector indebtedness, the economy’s competitiveness and tough labor market conditions — unemployment in Spain remains at a painful 20 per cent.

“The negative outlook reflects the possibility of a downgrade if Spain’s fiscal position deviates materially, in our opinion, from the government’s budgetary targets for 2011 and 2012,” Mrsnik said.

S&P is forecasting that Spain’s general government deficit will decline to 6.3 percent of national income in 2011 from 2010’s 9.3 per cent. The agency is predicting that Spain will follow up the 0.2 percent contraction in 2010, with growth of 0.7 per cent this year and 1.5 per cent in 2012.

S&P’s guarded thumbs-up comes amid mounting hopes that European Union policymakers are finally getting a grip with the debt crisis that has already seen Greece and Ireland be bailed out.

Over the past couple of weeks, the markets have become increasingly confident that a comprehensive solution to the debt crisis will emerge soon. That’s been most evident in the performance of the euro, which has risen around 10 cents since the middle of January to around US$1.38. The pressure on Europe’s bond markets has also eased, most evident in the fact that the European Central Bank halted its bond purchases last week, a key lifeline that helped calm bond market jittiers.

What’s prompted this reevaluation has been a seeming resolve among EU leaders to deal with this crisis once and for all.

Proposals being floated include an increase in the size and scope of Europe’s bailout fund, the so-called European Financial Stability Facility. As well as actually having more money at its disposal, there is a growing expectation that Europe’s core countries, like Germany and France, will allow the EFSF to buy back bonds directly in the markets and reduce the interest payments that bailed-out countries will have to pay.

There’s also growing talk in the markets that other novel ideas are being discussed, such as allowing Greece to use EFSF money to buy back its bonds in the markets, which could potentially reduce its debt obligations.

Many economists have said they still believe Greece will eventually have to cut its debt pile by some sort of restructuring — that is, stretching out repayment or otherwise giving bondholders less than the full interest and principal owed.

Though such proposals have given the euro much-needed respite, there are many analysts who think that they will not be able to stop Europe’s debt crisis from worsening, especially as many countries face years of tepid growth as governments continue to slash spending and raise taxes to get public finances into shape.

A particular worry is Spain’s troubled savings banks — the so-called cajas.

They are widely identified as a key source of concern that the government might have to bail them out, which would seriously strain state finances. Two major Spanish dailies said yesterday they are saddled with around euro90 billion (US$123 billion) in shaky real estate loans.

It was a burdensome bank bailout that drove Ireland to seek an international bailout last year.

Last week the Spanish government said it was raising the capital reserve requirements for banks in general and will be even tougher with the cajas, who could face partial nationalization later this year. They have already been forced to restructure in a government-mandated merger process that reduced their number from 45 to 17.

The government has said the cajas will need no more than euro20 billion in new capital to meet the new requirements but some analysts think that estimate is too low.

So far at least two major Spanish savings banks or groups, La Caixa and one led by Caja Madrid, have said they plan to create full-blown commercial banks so they can lure capital and raise their capital ratios.