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Spain paid the second highest yield on short-term debt since the birth of the euro at an auction on Tuesday, reflecting a growing belief that the country will need a full sovereign bailout that the euro zone can barely afford.
Spain's increasingly desperate struggle to put its finances right has seen its borrowing costs soar to levels that are not sustainable indefinitely. Italy, commonly regarded as too big to bail out, has been dragged along in its wake.
The Spanish Treasury raised 3.04 billion euros ($3.7 billion US) of 3-, and 6-month T-bills, meeting its target. The average yield on the 3-month bill was 2.434 percent, up from 2.362 in June. For the six-month paper, the yield jumped to 3.691 percent from 3.237 percent last month.
"The most important takeaway from this auction is that Spain was able get all its debt out the door," said Nicholas Spiro of Spiro Sovereign Strategies. "Still, in March, Spain was able to issue six-month debt at a yield of under 1 percent, now it is paying 3.7 percent."
Spain had cushioned itself by securing well over half its annual debt needs in the first six months of the year when market conditions were more benign but that advantage has now evaporated.
On Friday, the government said it expected the economy to remain in recession well into next year while the autonomous region of Valencia became the first to ask Madrid for aid to pay debt obligations it cannot meet. Others are expected to follow.
Madrid has already asked for up to 100 billion euros to recapitalize its banks which have been battered by a four year economic downturn and a burst property bubble.
The government has launched a fresh 65 billion euros package of tax rises and spending cuts designed to chip away at its debt mountain but which will probably drive the economy deeper into recession.
On the secondary market, Spanish five-year government bond yields rose above 10-year yields for the first time since June 2001. Having to pay more to borrow shorter-term rather than longer-term is usually a sign that markets think the risk of a default or debt restructuring has increased.
"The spread between 5- and 10-years moved to negative today, which is a classic sign that the market thinks the current trends are unsustainable for Spain's fiscal dynamics," said Nick Stamenkovic, bond strategist at RIA Capital Markets.
The alarming spiral of Spain's debt costs has banished any hopes that a bailout of its banks, or a June EU summit which gave the euro zone's rescue funds a green light to intervene in the markets, has put the debt crisis into abeyance.
Spain and Italy have called on their partners or the European Central Bank to help ward off market pressure, although Italian premier Mario Monti said on Monday the ECB did not have to leap into action just yet.
Although it has cut interest rates, the ECB has shown marked reluctance to revive its bond-buying program, the only mechanism that could directly lower borrowing costs.
French Foreign Minister Laurent Fabius said on Tuesday that further aid for Spain could take the form of an increase in Europe's rescue fund or action by the ECB.
"I hope it will not be necessary to intervene again," he told France 2 television. "If we have to intervene, it could be an increase in the firewalls ... or interventions by the central bank."
The euro zone as a whole is now subsiding into recession.
Business surveys on Tuesday showed the currency area's private sector shrank for a sixth month in July with the downturn that began in the euro zone's smaller economies now becoming entrenched in Germany and France.
Moody's Investors Service lowered its outlook for Germany, the Netherlands and Luxembourg to negative from stable late on Monday, citing an increased chance that Greece could leave the euro zone, which could spark a wave of uncontrolled contagion.
It also warned Germany and the other 'AAA'-rated countries that they might have to increase support for Spain and Italy.
Spanish Economy Minister Luis de Guindos flies to Berlin later to meet his German counterpart, Wolfgang Schaeuble.
The premium investors demand to hold Spanish 10-year bonds jumped to its highest level since the birth of the monetary union, at 7.6 percent, while the cost of insuring Spanish debt from default has also hit record highs.
Ten-year yields of over 7 percent have triggered spiraling debt costs in other European economies which have eventually led to bailouts, though de Guindos reiterated on Monday Madrid would not need more aid.
For investors, Spain has become the tipping point but Greece - where the debt crisis first exploded - remains a powder keg.
Inspectors from the EU, ECB and International Monetary Fund return to Athens on Tuesday to decide whether to keep the nation hooked up to a 130-billion-euro lifeline or let it go bust.
The euro zone has said it will keep Greece afloat through August while the inspection takes place but analysts say Athens cannot hope to meet its bailout terms without more money or time.
The new Greek government is trying to highlight a deeper than expected recession for throwing it off course while its lenders say it is failing to push through privatizations, market liberalization and tax reforms. The government has failed so far to find nearly 12 billion euros of extra cuts stipulated by its agreement.
Prime Minister Antonis Samaras said on Tuesday that Greece's economy could contract by more than seven percent this year, having already shrunk over each of the last four years.