(Updates with bond yields in fifth paragraph, budget data in sixth. See EXT4 for more on Europe’s sovereign-debt crisis.)

July 28 (Bloomberg) -- Spanish Finance Minister Elena Salgado secured agreement with the nation’s 17 regions to adopt spending rules as part of her effort to win over investors and stem a surge in borrowing costs.

The mechanics of the accord, an idea Prime Minister Jose Luis Rodriguez Zapatero floated in March and proposed again in June, will be decided by a working group in September. Regions have six months to present legislation to their parliaments, Salgado said after a four-hour meeting of the states’ finance chiefs yesterday in Madrid.

“The commitment is an extraordinarily satisfactory solution,” Salgado told reporters, rejecting suggestions that the rules may be weaker and take longer to implement than the central government had hoped.

Spain’s regions are crucial to its efforts to rein in the euro area’s third-largest budget shortfall, as they control health and education spending and employ half of the nation’s public workers. They have outstanding debt of 121 billion euros ($174 billion), or 11 percent of overall gross domestic product. That’s the most on record, according Bank of Spain data.

The gap between Spanish and German 10-year borrowing costs widened to 345 basis points today, from 332 basis points at the close yesterday. That compares with a closing-level euro-era record of 367 basis points on July 18 and an average of about 15 basis points in the first decade of monetary union.

Deficit Target

The regions are trying to cut their overall deficit by more than half to 1.3 percent of GDP this year, as part of Spain’s plan to reduce the total shortfall to 6 percent this year from 9.2 percent in 2010. While first-quarter budget data for the regions indicated they aren’t on track to meet the target, the central government said today its first-half deficit narrowed to 2.2 percent of GDP, within the 4.8 percent full-year goal.

European Central Bank Executive Board member Jose Manuel Gonzalez-Paramo called on the regions to meet their targets and on the central government to force them to do so. Spain met its overall budget target last year as deeper-than-forecast cuts by the central government offset slippage in the regions.

“Year after year the regions don’t meet their targets and the central government has to make room so that the overall deficit meets the goal,” Gonzalez-Paramo, a Spaniard, said in an interview with Radio Galega today. “It’s very clear that the central government can demand regions meet the budget goals and they have the instruments to do so.”

Regions’ Commitment

The regions committed yesterday to each meet individually the deficit targets of 1.3 percent in 2012, 1.1 percent in 2013 and 1 percent in 2014. The central government controls half the voting rights in the so-called Council of Fiscal and Financial Policy, meaning it can get measures passed with backing from just one region. No one voted against the budget targets, Salgado said.

Support for the Socialist central government in the council has declined since the opposition People’s Party won regions including Castilla-La Mancha and Extremadura on May 22 in the Socialists’ worst local election defeat in three decades.

Maria Dolores de Cospedal, the PP’s new president of Castilla-La Mancha, said yesterday that the expenditure ceiling measure won’t be effective.

“The spending ceiling that the government wants to pass and that they are presenting to the Council of Fiscal and Financial Policy is unrealistic because it is based on revenue forecasts that can’t be met,” she said in an interview in Madrid before the meeting.

Growth Forecast

Spain’s government forecasts economic growth of 1.3 percent this year, accelerating to 2.3 percent next year and 2.4 percent in 2013. The International Monetary Fund sees the growth rate “gradually” rising to 1.5 percent to 2 percent in the medium term, it said on June 22.

Spain’s regions, which control more than a third of public spending and spend 60 percent of their budget on health and education, are suffering from a slump in tax revenue linked to real-estate transactions. As their governments struggle to plug shortfalls, Spain’s association of pharmaceutical firms said on June 8 the companies it represents are owed 5.2 billion euros by the health system.

Castilla-La Mancha’s Cospedal aims to negotiate with banks on “formulas” to pay suppliers owed more than 2.5 billion euros, she said. The region can’t issue debt to plug the deficit as the central government hasn’t signed off on its spending plan, and the administration has only enough cash to cover wage payments for August and September, said Cospedal, who is also deputy leader of the People’s Party.

--With assistance from Sharon Smyth and Angeline Benoit in Madrid, Editors: Craig Stirling, Jeffrey Donovan

To contact the reporter on this story: Emma Ross-Thomas in Madrid at erossthomas@bloomberg.net

To contact the editor responsible for this story: Craig Stirling at cstirling1@bloomberg.net