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 Prime Minister Pedro Passos Coelho defied calls to resign late Tuesday but he was running out of options to keep his center-right coalition government together following the resignations of two key ministers in a spat over austerity.
The resignations raised concerns that the junior party in the coalition government could pull its support. That would leave the government with insufficient votes in parliament to pursue the reforms required to keep accessing the bailout loans. The funds are vital to avoid bankruptcy.
Portugal agreed on the 78 billion euro ($102 billion) bailout program with its fellow euro countries, the European Central Bank and the International Monetary Fund two years ago.
Leaders of the 17 European Union nations that share the euro currency, known as the eurozone, have insisted on cuts in countries like Portugal that have a heavy debt burden.
But the cuts have hurt the economy, eroded standards of living and drawn criticism from trade unions and business leaders. Portugal is now facing the likely prospect of austerity-inspired strife of the kind that has dogged Greece and compelled it to ask for a second bailout.
If Portugal doesn't abide by the austerity program, its bailout creditors could halt the disbursement of funds, potentially leaving it unable to pay what it owes.
That development "could trigger a sovereign default and potential removal from the eurozone, with contagion spreading across to Greece, a country that is currently struggling to secure its next tranche of aid money," Ishaq Siddiqi of ETX Capital said Wednesday.
Portugal's main PSI 20 stock index plunged 6.4 percent to 5,177 in late morning trading Wednesday. Another indicator of investor confidence in a country, the interest rate on Portugal's benchmark 10-year bond jumped 1.28 percentage points to 7.74 percent. The rate, which is what Portugal would pay to borrow 10-year money, is far above the 5.23 percent rate it hit in May but nonetheless lower than the 9.77 percent it was at this time last year.
Though the higher rates are not an imminent threat, since the government is not borrowing on bond markets but surviving on bailout loans, they reflect concerns the country will be unable to get back on its feet. It will have to bring the bond rates down by June 2014, when its bailout program ends.
The European Commission, the European Union's executive arm, expressed "very serious concern" about Portugal's unexpected political crisis, which flared up over 48 hours following two years of government stability. "The political situation should be clarified as soon as possible," the Commission said in a statement.
Jeroen Dijsselbloem, the president of the Eurogroup meetings of eurozone finance ministers, described the Portuguese upheaval as "disturbing" and said political stability in bailed-out countries is "a crucial factor" for recovery.
Portuguese Foreign Minister Paulo Portas, the leader of the junior party in the center-right coalition government, quit on Tuesday in protest against plans to continue with tax hikes and pay and pension cuts.
The previous day, Finance Minister Vitor Gaspar walked out, saying he lacked political and public support for his austerity strategy.
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 Passos Coelho, the prime minister, said in a nationally televised address that he will fight to keep his Cabinet together, "but resolving the problem doesn't only depend on me."
He said he will speak to Portas, head of the Popular Party, in an attempt to resolve their differences. Portas did not say whether he would pull his party out of the government -- a step which would leave Passos Coelho without the majority in Parliament he needs to enact his policies.
Holger Schmieding, an analyst with Berenberg Bank, said "Portugal is now the key event risk to watch in the eurozone."
But he noted that Portugal's European partners have been sympathetic to Portugal's needs in the past, twice softening its annual deficit targets. Also, the economic contraction is slowing and unemployment has stopped rising.
"Some tweaking of the Portuguese program should be possible over time, helping Portugal to stay the course whatever the precise outcome of the political crisis," Schmieding wrote in a research note. "We remain fundamentally optimistic, especially as the positive results of reforms are starting to show up in the economic data."
Antonio Seguro, leader of the main opposition Socialist Party who has called for new elections, was due to meet later Wednesday with President Anibal Cavaco Silva. The head of state has the power to dissolve Parliament and call a ballot, though he has expressed reluctance to take that course.
The president's office announced on its website that the head of state will meet with the prime minister and all opposition parties on Thursday.
"We see early elections as the most likely outcome at this stage," analysts at Barclays Research said in a note to clients.
Portugal still has a lot more unpopular cutting to do if it is to comply with the demands of the bailout agreement, which was signed by all three main parties.
Unions are fighting the government's plans to increase the working time of state employees to 40 hours a week from 35; raise their monthly pension deductions while lowering their pension entitlements; and lay off some 50,000 government workers out of the total of about 583,000.
On top of that, the government has to find another 3.4 billion euros of savings in 2014 and is due to present later this month details of a deep and broad reform of how the state is run. The proposal is expected to order a further streamlining of state services and will likely fuel more protests.
[Associated
Press; By BARRY HATTON]
Copyright 2013 The Associated
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