“IS SPAIN next?” seemed to be the question on every economist’s lips this week even before Portugal bowed to the inevitable. A Spanish bailout would swamp the current €440bn bailout fund and could take the single currency with it.

But there are good reasons to think that the debt contagion will stop short of Madrid. Spain has begun a convincing crackdown on spending and brought its deficit down to 9.2 per cent of GDP last year (only five per cent of which was from central government, the rest being regional) from 11.1 per cent in 2009. It has targeted three per cent in 2013.

And markets are abuzz with talk of Spain “decoupling” from the rest of the floundering periphery: while Lisbon’s five-year yields were scaling new heights at 10.2 per cent this week, Spain’s equivalent interest rose only slightly to 4.4 per cent, a trend that has prompted suggestions that Madrid has broken free of the peripherals’ curse.

But there is still at least one big unknown hanging over Spain’s recovery: the banks. While the national banks are “only” €15bn short of the capital needed to meet Basel III rules, the cajas are said to be short €50bn. And there are fears that as higher ECB rates pile pressure onto mortgage-holders, this could multiply to as high as €120bn, or eight per cent of GDP.

Optimists point out that eight per cent is a far cry from the yawning hole in Ireland’s bank balance sheets that has reached a stunning 45 per cent of GDP. Evolution Securities calls Spanish banks’ shortfalls “manageable”, even with some slowdown in growth. But the true size of the hole in Ireland only became apparent over months of upwards revisions and proclamations that it surely could not get any worse.

Newedge’s Bill Blain says he is worried: “We suspect the country’s banks are going to struggle with property lending... and that Spain’s optimistic estimates of a mere €15bn bank capital will prove well short of the mark.”

THE VERDICT | NOT YET

PORTUGAL’S capitulation has bought breathing space for the Eurozone, and an immediate spread of the panic to Spain is unlikely.

But the sovereign crisis is far from over, with markets still anticipating peripheral defaults.

After months of over-promising and delivering half-measures, the key question euro leaders have to answer is why Spain shouldn’t be next.

Even deficit reduction and steady growth won’t save Madrid from a market panic if the insolvent peripherals exhaust the patience and funds of Europe’s paymaster economies.