LONDON—A leading credit rating agency downgraded Portugal's debt Wednesday amid growing concerns about the government's ability to service its borrowings, another piece of bad news for the eurozone as it struggles to deal with a debt crisis.
Fitch Ratings said that Portugal's prospects for recovery were weaker than its peers in the eurozone, adding that this will put make it harder to shrink its budget deficit over the medium term.
"A sizeable fiscal shock against a backdrop of relative macroeconomic and structural weaknesses has reduced Portugal's creditworthiness," said Douglas Renwick, Associate Director in Fitch's Sovereign team.
In 2009, Portugal had a deficit representing 9.3 percent of its national income. That was higher than the 6.5 percent forecast by Fitch as recently as September and underlines why the ratings agency lowered its rating on the country by one notch to AA-.
Lisbon's main PSI-20 stock market index tumbled more than 2 percent on the Fitch downgrade.
Despite the downgrade, Portugal's debt is still considered investment grade and still a few notches above its rating of crisis-stricken Greece.
However Fitch said the outlook remains negative and that a further downgrade could be in the offing if the recovery is not as strong as anticipated in the coming two years.
Fitch said the negative outlook reflects its concerns about the potential impact of the global economic crisis on Portugal's economy and public finances, given the country's structural weaknesses and high indebtedness across all sectors of the economy.
Fitch said the Portuguese government has to implement "sizeable" spending cuts and tax increases to meet its target of getting its deficit to 3 percent of economic output by 2013.
Earlier this month, the Portuguese government unveiled further austerity measures to reduce its budget deficit to below 3 percent of GDP by 2013 by cutting investment, tax increases and public sector salary caps. Though Fitch said the government's plans were "broadly credible," it said "the risk of macroeconomic disappointment -- with knock-on effects to the deficit -- is significant, particularly in the latter years of the government's projection."
Further underperformance in 2010 and 2011, on the budget or the economy in general, could lead to another downgrade, Fitch said.
Pressure for another downgrade could be eased, however, by a sustainable economic recovery, meeting deficit reduction goals and implementing further reforms to enhance the productivity and competitiveness of the economy.
Fitch also said that Portugal's rating was supported by a relatively strong banking system, membership in the euro and low historical volatility in inflation, growth and tax payments as well as a moderate debt service burden. Broad political consensus on the need for action on the budget and reforming the economy were also considered a boon for the country's rating.
In the wake of the downgrade, Portugal's finance minister urged opposition parties to back the austerity plan, which is due to be debated in Parliament on Thursday.
Fernando Teixeira dos Santos said in a written statement "it is fundamental for Portugal to demonstrate firm political commitment" to the plan and "send clear signals about the political stability and consensus needed for its swift implementation."
The minority center-left Socialist government has said it will enact the plan's measures even if it fails to get parliament's endorsement.
Teixeira dos Santos said further uncertainty about Portugal's finances could harm its economic recovery.
Associated Press Barry Hatton in Lisbon, Portugal contributed to this report.