Bank of Spain believes economy may contract in fourth quarter of this year

With no signs yet of a decisive action to lift the growing turmoil in the euro-zone sovereign debt markets, Spain's fragile economy looks increasingly set to contract again in the last quarter of its year.

In its latest monthly bulletin on the economy, the Bank of Spain on Wednesday concurred with a report released earlier this week by the OECD that activity has weakened further after stagnating in the third quarter due to the impact of the government's austerity drive and slowing exports.

"The as yet very preliminary information available points to heightened weakness of demand and output in the last months of the year deriving from the impact of an aggravation of financial tensions as a result of the worsening of the euro-zone sovereign debt crisis, and poorer growth prospects on a global level," the central bank's report said.

Spain's borrowing costs have shot up as a result of the crisis, with the Treasury last week having to pay over seven percent for the first time since 1997 to sell 10-year government bonds.

The Bank of Spain noted that consumer confidence remains brittle as a result of high unemployment, with the labor market expected to deteriorate further.

Retail sales fell for the 16th month in a row in October, with the decline accelerating to 7.0 percent from 5.6 percent the previous month.

Domestic car sales for the same month dropped to their lowest level in 20 years, with the prospects for the country's main export markets in Western Europe also looking grim. Renault's Spanish division on Tuesday joined other local manufacturers such as Ford in announcing temporary layoffs next year as the sector adjusts to weaker demand prospects.

According to figures released Wednesday by the European Union's statistics office Eurostat, the jobless rate in Spain rose from 22.5 percent in September to 22.8 percent in October, by far the highest rate in the European Union where unemployment in the same month increased by a tenth of a percentage points to 9.8 percent. With close to five million out of work, Spain accounts for over a fifth of the total number out of work in the EU.

In its report earlier this week, the OECD predicted unemployment is expected to average 22.9 percent next year when it sees GDP growth of only 0.3 percent, down from a forecast in May of 1.6 percent. The Paris-based organization also cut its estimate for this year to 0.7 percent from 0.9 percent.

Prime Minister-elect Mariano Rajoy has made a major overhaul of Spain's malfunctioning labor market one of the priorities of his government alongside bringing the public deficit back within the EU ceiling of three percent of GDP in 2013 from a projected six percent this year.

Rajoy on Wednesday met with the leaders of the country's main labor unions, Ignacio Fernández Toxo of CCOO and Cándido Méndez of the UGT, as well as Juan Rosell, the head Spain's biggest employer group, the CEOE, to urge the two sides to reach an agreement on labor reform by the start of next year.

However, the Popular Party, which won an absolute majority in the November 20 general elections, made it known it would pass its own reforms in the absence of an agreement.