UH OH:

Spain has replaced Greece as the epicenter of the ballooning European sovereign debt crisis, with the country's smaller banks coming under pressure and a new short-term debt issue meeting with poor demand.

News over the weekend that a Spanish bank had failed, followed by the revelation that four similar outfits had also merged, has created a picture of broad-based weakness in the whole country's financial institutions.

And on Tuesday, Spain had to sharply raise the yield on a new issue of short-term debt in an effort to attract new investors.

UPDATE. More:

In theory, the collapse of a small Spanish savings bank shouldn't fuel a global stock-market sell-off. CajaSur, seized by the Bank of Spain over the weekend, accounts for just 0.6% of the country's banking assets, and its difficulties were well-known. The €500 million ($619 million) to be injected into CajaSur from the government's Fund for Orderly Bank Restructuring will barely dent the fund's potential €90 billion capacity. But CajaSur's demise has raised fresh doubts over Spain's ability to address the problems in its banking sector—a vital test of its credibility with investors.

Also,

In the rush to fix its struggling savings banks, Spain risks leaving the job half finished.
Case in point: Caja de Ahorros del Mediterraneo’s proposal to merge with three smaller savings banks, creating a lender with 135 billion euros ($167 billion) in assets. The combination would let them keep separate branches and workforces.

“It’s a halfway house that creates some savings but not enough,” said Inigo Lecubarri, who manages about $170 million at Abaco Financials Fund in London. “If you’re going to do these mergers, you should aim to cut costs.”
 
Spain is pushing for mergers between “cajas,” lenders run as foundations that helped fund the country’s property boom and account for about half of its loans. By melding ailing lenders with stronger partners, the central bank aims to purge bad loans and lay the groundwork for economic recovery as the government tackles its budget deficit. Lumping lenders together without reducing staff and closing branches isn’t likely to accomplish those aims, Lecubarri said.