Portugal's parliament rejected government austerity measures on Wednesday in a vote that is set to topple the minority Socialist administration a day before a European summit and is likely pave the way for a snap election.
Prime Minister Jose Socrates has said he will resign if the plan is defeated. He has said its rejection would force the debt-laden country to follow Greece and Ireland and seek an international bailout, which he opposes.
The rejection will "provoke an election," Cabinet Minister Pedro Silva Pereira told parliament shortly before the vote. "The government does not fear the judgment of the Portuguese people."
The vote prompted the euro to extend losses against the dollar after trading lower all Wednesday on wariness before the Portuguese vote and on news of a delay in increasing a euro zone bailout fund. Portuguese stocks fell and bond yields shot up.
The euro slipped to $1.4103 after the news from about $1.4117 just before.
Finance Minister Fernando Teixeira dos Santos had opened the debate in parliament, warning that a refusal to approve the measures "will provoke an immediate rise in the country's risk and immediate consequences in terms of credit ratings."
Socrates sat through Teixeira dos Santos' speech but then left parliament without returning.
The main opposition Social Democrats, who have previously backed austerity, have begun talking about a snap election.
All opposition parties voted against the measure in the 230-seat parliament, where the Socialist have 97 seats.
Socrates was due to meet President Anibal Cavaco Silva Wednesday evening and would make a statement afterwards, his spokeswoman said.
The government had hoped to obtain support for its plan before Thursday's EU summit, to reduce market pressure on Portugal's sovereign debt.
A spokesman for Socrates said the prime minister would go to the EU summit in Brussels regardless of the outcome of the vote.
The EU leaders, however, look set to disappoint investors by delaying any approval of a beefed-up euro zone rescue fund till June [ID:nLDE72M1D0].
BOND YIELD UP
Portuguese markets fell as investors grew more nervous.
The Portuguese benchmark 10-year bond yield rose to 7.83 percent on Wednesday from Tuesday's 7.68 percent and the spread over safer German Bunds rose 14 basis points to 457 bps. Many economists see borrowing costs above 7 percent as unsustainable and say Portugal will have to resort to the rescue mechanism.
Shorter-dated bonds were harder hit, with Portugal's five-year bond yield at a euro lifetime high of 8.3 percent.
The stock market was down 1 percent with banks among the hardest hit shares.
The Social Democrats, ahead in opinion polls, are broadly committed to reducing the budget deficit.
The constitution stipulates that the country can hold a snap election no sooner than 55 days after the president calls one. The outgoing government remains in office as a caretaker administration with limited powers.
"My worry is the period of inaction before a new government takes over," said Silvio Peruzzo, an economist at RBS in London. He did not expect decision-making to come to a standstill, preventing the country seeking a bailout if necessary.
Political analyst Antonio Costa Pinto said a caretaker government would have its hands tied.
"Although a caretaker government cannot take major autonomous initiatives, it could take a decision on resorting to aid if it is backed by parliament," Costa Pinto said.
Whatever the outcome, opposition to austerity may increase as the Portuguese face lower wages and higher taxes, and the country returns to recession.
Large protests have been held against austerity on the past two weekends and on Wednesday train drivers went on strike to demand higher wages, creating traffic chaos around Lisbon as commuters were forced to take their cars to work.