By Jamie McGeever and Marc Jones
LONDON (Reuters) - The biggest threat to Spain's investment grade status is its intensifying recession, Fitch's head of sovereign ratings said on Thursday, although proposed support measures such as ECB bond buying could help turn the situation around.
Spain, which continues to resist making a formal request for aid, is expected to see its economy shrink substantially over the next two years as the combination of high unemployment, painful spending cuts and an exodus of capital bites.
The head of the country's central bank admitted on Thursday that next year's decline was likely to be closer to the 1.5 percent drop estimated by bank analysts than the 0.5 p0ercent forecast by the Spanish government last week.
"The biggest threat from our perspective to Spain's investment grade status is actually that the recession there intensifies and that spills into greater concerns about bank asset quality as well as the solvency of the Spanish state," David Riley said in an interview with Reuters Insider Television. (To watch click http://link.reuters.com/neb23t)
Fitch, like its peers S&P and Moody's, has slashed the ratings of debt-strained euro zone countries over the last few years as the bloc's crisis has intensified.
It currently has a BBB rating for Spain with a negative outlook.
Riley added that the apparent backpedaling by Germany, the Netherlands and Finland on pledges made in June to use bailout funds to bolster Spanish banks was "undoubtedly adding to the uncertainty on whether these costs are going to be shared across the euro zone as a whole."
But he stressed Fitch was unlikely to move Spain's rating in the near term and that the country's decline could be reversed if bank recapitalization support came through and the ECB went ahead with plans to buy Spanish bonds if Madrid accepts aid.
"One of the biggest pressures Spain is faces is trying to stabilize the outflow of private capital. A huge amount of capital has been leaking from Spain so Spain has been struggling to fund itself."
"If ECB measures and support from the ESM (European Stability Mechanism) can stabilize that then suddenly the economic outlook and the budget outlook for Spain will start looking potentially a lot better," Riley said.
Rival ratings agency Moody's said on Monday it would publish a review on the country's sovereign debt sometime this month.
Riley also hinted that the ESM, the new look euro zone bailout fund, was likely to get the same AAA rating as the current incarnation, the EFSF.
"For the EFSF which is the precursor of the ESM if you like, we do have a triple A rating."
"The ESM will have very strong backing from the major triple As, including of course Germany, and it will also have, unlike the EFSF, paid in capital so these are important credit enhancements."
(Reporting by Jamie McGeever and Marc Jones; Editing by Toby Chopra)