THE eurozone's clouds are darkening again.

Spanish debt has been downgraded and the latest Italian bond auction was disappointing.

Spanish government yields hovered around 6 per cent on Friday after Standard and Poor's cut Spain's credit rating by two notches to BBB-plus and warned of further downgrades.

After reaching 6.03 per cent early on Friday, bonds traded at 5.95 per cent as investors feared that a jump in unemployment to over 24 per cent, or 5.64 million people, indicated that the country would not be able to cope with stringent austerity measures.

Concerned about events in Spain, the reception to an issue of Italian government bonds that were on the same rating as Spain was lukewarm.

The Italian Treasury auctioned up to 6.25 billion euros (S$10.3 billion) in four government bonds and sold 5.9 billion euros. The yield on five-year bonds, to be redeemed in May 2017, jumped to 4.86 per cent at the auction, up from 4.18 per cent in a sale at the end of March.

The rate on the 10-year bond, maturing in September 2022, bond rose to 5.84 per cent from 5.24 per cent.

The yields on the issues might have risen, but they are still below the crisis level of more than 7 per cent in November last year. Nevertheless, they are still well above the 1.68 per cent levels of 10-year German bonds and the high interest rates place pressure on the Italian budget during recession.

The auction results raise questions on whether Italy will be able to borrow large amounts at reasonable rates this year, according to fixed income analysts at Rabobank, a Dutch bank. Investors tend to place similar risk profiles on Spanish and Italian government bonds.

The Spanish government has so far raised around 50 per cent of its bond issuance target for this year, but Italy's government has only sold around 35 per cent so far.

Such is the pressure on European leaders and the European Central Bank that last year's agreement to maintain tight austerity measures is already under strain. Leaders are openly talking about Keynesian infrastructure spending to boost growth, but to do so would require more borrowing. Moreover the higher tax regimes are dampening private investment spending and consumer demand.

Several governments wedded to the eurozone and its currency, interest rate and fiscal restrictions, have already fallen.

Meanwhile, investors are focusing on Spain, although the euro still defies forecasters and remains above 1.31 against the US dollar. The Spanish economy is in recession for the second time in three years as the damage from a housing bust persists.

Spanish Economy Minister Luis de Guindos hoped that banks would be able to offload property loans on to real estate mortgage funds, but much will depend on the valuation of the loan portfolios. Banks would still have to sell them at a steep loss.

The fear is that there will still be a vicious spiral of banker reluctance to lend, corporate failures, leading to deeper recession and job losses. The youth comprise more than half the unemployed and all the people are suffering because energy costs have boosted Spain's inflation.