S&P downgrades Greece, Portugal as tensions rise

The euro-zone debt crisis deepened Tuesday as Standard & Poor's cut Greece's credit rating to junk status and downgraded Portugal two notches from A+ to A-.

The ratings agency cut Greece's long-term rating to BB+ from BBB+. The agency said the ratings outlook for both countries was negative.

"We believe that the [Greek] government's policy options are narrowing because of Greece's weakening economic growth prospects, at a time when pressures for stronger fiscal adjustment measures are rising," S&P said.

"Our updated assumptions about Greece's economic and fiscal prospects lead us to conclude that the sovereign's creditworthiness is no longer compatible with an investment-grade rating," S&P said.

Greek government borrowing costs were sent soaring last week, effectively ending the country's ability to borrow on the open market.

The government on Friday requested the activation of a 45 billion euro ($61 billion) rescue package provided by fellow euro-zone countries and the International Monetary Fund. The move will add to nervousness about the ability of Greek banks to borrow.

S&P is the only agency to cut Greek debt to less than investment grade. Greek government debt will remain eligible for use as collateral at the European Central Bank as long as one agency maintains an investment-grade rating of BBB- or better.

On the aid front, Germany has made clear it wants to see additional deficit-reduction measures from Greece before aid will be provided under the plan. That's raised fears Greece may not have access to funds ahead of an 8.5 billion euro refinancing on May 19.

S&P said it believes a multiyear E.U.-IMF support program is likely to be implemented, which should significantly ease Greece's near-term liquidity woes. But pressures for more aggressive and wide-ranging fiscal retrenchment are growing, the agency said, in part due to recent increases in borrowing costs. S&P said it now estimates Greece's debt-GDP ratio will hit 124% of GDP in 2010 and 131% in 2011.

Portugal's deficit hit 9.4% of gross domestic product in 2009, up from 2.7% in 2008.The ratings move drives home the fact the fiscal crisis has spread beyond Greece.

S&P said it expects the deficit to remain high at 8.5% of GDP this year, due partly to the government's initial call to implement only limited deficit-reduction measures. The agency noted that the government is now weighing accelerating some measures initially intended for 2011.

The agency said it expects government debt to continue to rise rapidly, hitting 95% of gross domestic product in 2013 from 66% in 2008.

Big fiscal imbalances and debt rollover leaves Portugal vulnerable to changes in investor sentiment. That in turn could lead to interest-rate shocks or blows to economic growth that could trigger a more pronounced increase in the government debt ratio.