The downgrade came on the eve of a eurozone summit in Brussels to discuss bolstering the euro's defences, amid growing speculation that weak member states such as Portugal may follow Ireland and Greece and need massive bailouts.

Moody's could have resolved its doubts over the cost of recapitalising the banks "simply by waiting until this afternoon for the Bank of Spain to confirm the necessary amounts," Finance Minister Elena Salgado said. The finance minister agreed however that more should be done to control spending by semi-autonomous regional governments.

Markets tumbled after the Moody's announcement, which followed a three-month review of Spain's credit. The agency withdrew its top-notch "Aaa" rating from Spain in September, a few months after its rivals Standard & Poor's and Fitch had done so.

The government said last week it had trimmed the public deficit to 9.24 percent of total economic output in 2010 from 11.1 percent in 2009, narrowly beating its target of 9.3 percent.

It has vowed to drive its public deficit below the European Union limit of 3.0 percent of gross domestic product by 2013.

Spain's central and regional governments and the banks need to raise a combined 290 billion euros in gross debt including rollovers in 2011, according to Moody's. "Spain's vulnerability to market disruption remains elevated given the high funding requirements, not only for the sovereign but also for the regional governments and the banks," Moody's said.

Press release