Spain's rising debt costs eat up austerity gains Rocketing debt service costs alone will eat up almost half the extra savings, rising by €9bn to €36bn next year. The economic slump is eroding the tax base at an alarming rate. Revenues so far this year have fallen by 4.8pc, despite a rise in tax rates. Professor Jesus Fernandez-Villaverde, from Philadelphia University, said the strategy is doomed to failure: "There is no hope that this can work. I think we'll be lucky if the deficit is below 8pc this year. This has accelerated into a complete disaster over the past three weeks, with the Catalan secession spiralling out of control. Rajoy's people are overwhelmed, running around in circles in the middle of the Titanic screaming. Madrid has so far shown no willingness to defuse the Catalan crisis. Vice-premier Soraya Sáenz de Santamaría said the government has the means to stop a referendum on self-rule and "is willing to use them." It is unclear where such a policy will end in the face of separatist fervour in Barcelona. Catalan leader Artur Mas exhorted Spain's leaders to act in a "civilised" fashion, citing Canada's handling of Quebec. The government has based its budget sums on economic contraction of 0.5pc of GDP next year. Citigroup fears a 3.2pc contraction, followed by a further fall of 0.8pc in 2014, ending in debt restructuring. "Spanish GDP is beginning to fall off a cliff and this is going to make state debt dymanics even worse," said David Owen from Jefferies Fixed Income. Miguel Navascues, a former economist at the Bank of Spain, said the country is caught in a debt spiral with no obvious solution other than exit from the euro. "I think there is no way out other than an exchange rate adjustment," he said. The cuts come as Spain's chief export markets buckle. The European Commission's September survey of business and consumers fell to a 37-month low, with trouble reaching the core. "The eurozone economy is sinking into deep recession," said Jonathan Loynes, from Capital Economics. The ECB said eurozone lending contracted further in August, with loans falling 7.8pc in Portugal, 6pc in Spain and 2.1pc in Italy. Julian Callow, from Barclays Capital, said: "There is a credit crunch under way in southern Europe. These countries have not yet had any monetary reward for austerity. The conclusion is obvious. The ECB needs to activate its bond plan. The decision by the AAA bloc of Germany, Holland, Finland and now Austria to row back from the EU's summit deal to shore up the Spanish banks directly makes matters far worse. Spain will have to raise an extra €60bn or so to plug the hole in its banking system. Alberto Gallo, from RBS, said the final shortfall is likely to be €134bn, once the hidden losses from the housing crash become clearer. JP Morgan said the retreat from the June summit pledge will have grave repercussions. The tough line will be taken as "bad faith" in the eurozone periphery, poisoning North-South relations. "Investors may need to look again at the commitments they think the region has agreed," it said.