Spain has toppled back into recession, official data confirmed Monday, but the government warned there was no alternative to austerity to build future growth.
Spain's gross domestic product shrank by 0.3 percent in the first quarter of 2012, equalling the slump in the final quarter of 2011, according to preliminary data from the National Statistics Institute.
The recession returned barely two years after Spain emerged gingerly from the last downturn.
Despite growing opposition to cuts during a recession with 24.4-percent unemployment in the first quarter, Economy Minister Luis de Guindos said fiscal restraint was more essential than ever.
"The Spanish government does not see any incompatability between austerity and economic growth," he told a news conference in Santiago de Compostela after talks with his German counterpart Wolfgang Schaeuble.
"Budget discipline is unavoidable if we want to build solid foundations and sufficient financing for economic growth in our country -- it is a necessary condition," he said.
Tens of thousands of people took the streets on Sunday to protest against austerity measures by Prime Minister Mariano Rajoy's conservative government, especially those affecting health care and education.
"Looking ahead, we fear that things are likely to get worse before they get better," warned ING economist Martin van Vliet.
"Indeed, the ongoing drag from real estate and the sheer scale of Spain's planned fiscal adjustment -- more than four percent of GDP this year -- mean that the recession will almost certainly deepen in the coming quarters, pushing unemployment to even more dramatic highs."
Doubts about Spain's ability to meet its deficit goals have been amplified by the plight of the banks, many bogged down in bad loans extended during a property boom which collapsed in 2008.
Standard & Poor's on Monday downgraded the ratings of the top Spanish banks, including Santander and BBVA, after slashing the country's credit standing because of the deficit and recession.
The banks affected include Santander and its subsidiary Banesto, BBVA, Banco Sabadell, Ibercaja, Kutxabank, Banca Civica, Bankinter and the local unit of Barclays.
The government said it was studying a scheme to allow banks to split off their bad loans and place them into a separate agency but without financial help from the state.
An economy ministry official said banks that joined the scheme would have to set aside financial provisions that recognise the sharply reduced market value of the loans, extended during the housing bubble.
"If the valuation of the assets is correct, the possibility of separating property assets from bank balance sheets is something that I think makes sense and is positive for the entities," De Guindos said.
"It allows them to free up capital and fundamentally allows the banks to focus on their core business which is banking and not real estate," he said.
Bank of Spain figures on Friday showed commercial banks held problem real estate loans worth 184 billion euros ($243 billion), some 60 percent of their property portfolio at the end of 2011.
The ratio of bad loans -- those at least three months in arrears -- hit an 18-year high in February of 8.15 percent of total credit extended.
Spain aims to lower the public deficit -- the shortfall in revenues to spending -- to 5.3 percent of GDP this year and 3.0 percent of GDP next year, after allowing it to hit 8.5 percent of GDP in 2011.
The accumulated public debt is officially forecast to leap to 79.8 percent of GDP this year from 68.5 percent at the end of 2011.