) -- Standard & Poor's lowered its short- and long-term sovereign debt ratings on Spain late Wednesday, saying the country's "deepening" recession is limiting the policy options of its government.

The ratings agency went to 'BBB-' from 'BBB+' on the long-term rating and 'A-3' from 'A-2' on the short-term rating and said its outlook is negative. A drop down to 'BB' would put Spain's bonds in junk territory.

"Rising unemployment and spending constraints are likely to intensify social discontent and contribute to friction between Spain's central and regional governments," S&P


. "Doubts over some eurozone governments' commitment to mutualizing the costs of Spain's bank recapitalization are, in our view, a destabilizing factor for the country's credit outlook."

The two-notch downgrade was also in part attributed to recent statements by eurozone officials that S&P interpreted as meaning big private European banks wouldn't be able to access the European Stability Mechanism.

"Our understanding from recent statements is that the Eurogroup's commitment to break the vicious circle between banks and sovereigns, as announced at a summit on June 29, does not extend to enabling the European Stability Mechanism to recapitalize large ongoing European banks," S&P said. "Our previous assumption (which was a key factor in our decision to affirm our ratings on Spain on Aug. 1, 2012) was that official loans to distressed Spanish financial institutions would eventually be mutualized among eurozone governments and thus Spanish net general government debt would remain below 80% of GDP beyond 2015."

The influence of the downgrade was already being felt in currency trading as the dollar index turned higher and the euro weakened.


Written by Michael Baron in New York.

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Michael Baron


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