It blamed higher spending by 17 regional governments for the 0.2 percent of gross domestic product deficit it now predicts.

The overshoot, compared with a 0.1 percent gap last year, was not related to the costs of cleaning up the spill left by the tanker Prestige which sank off its coast last month, coating the key fishing and shellfishing area of Galicia with thick oil.

But the hulking tanker, still spewing oil in deep Atlantic waters, poses an unquantifiable threat to Madrid's goal of balancing its budget in 2003.

The disaster threatens long-term economic damage to Galicia, heavily dependent on fishing and tourism.

Spanish officials will try to persuade the European Union to treat Prestige-related costs as exceptional, arguing they should not count towards the EU calculation of its deficit.

"We already indicated in our stability programme for next year that Prestige expenses will in our opinion be outside the commitments we made in that programme," Economy Minister Rodrigo Rato told a news conference last week.

"We are in an extraordinary situation," Rato said.

However, private economists think the Prestige's impact on Spain's budget next year will be small.

Guillaume Menuet, European economist with analysts 4CAST, said he was expecting Spain to record a budget deficit of 0.3 percent of GDP next year and that Prestige costs would push this deficit to 0.5 percent of GDP in the worst case scenario.

LOOSENED PURSE STRINGS

Stung by widespread criticism that it has failed to provide enough resources to clean up northwestern beaches hit by the 20,000-tonne fuel oil spill from the Prestige, the centre-right government has loosened the purse strings.

Some 200 million euros has been spent so far and the government has promised to spare no expense to help victims.

Spanish authorities have pledged to pay 1,200 euros a month to at least 4,500 fishermen idled by the disaster, made available 200 million euros in soft loans for companies in the area and provided almost 15 million euros to pay 7,000 unemployed people to clean up beaches.

The state industrial holding company will spend 100 million euros to promote investment in Galicia and the government will spend 23 million euros boosting tourism to northern Spain.

Rato said last week he favoured creating a fund with up to 300 million euros to counter unemployment in northern Spain.

Spain's 2003 budget includes a 2.3 billion euro contingency fund but most of the money has already been earmarked for other purposes, leaving little room for manoeuvre.

Montoro was quoted in Spanish financial daily Cinco Dias last week as saying the government would be prepared, if necessary, to break the 114 billion euro spending limit in the 2003 budget.

Spain has said it hopes for 265 million euros in aid from various European Union programmes. Victims could also receive up to 175 million euros from the International Oil Pollution Compensation Funds, set up to pay compensation in tanker spills.

Spain has recently been a model of fiscal rectitude compared with the three biggest euro zone economies - Germany, France and Italy - whose deficits have caused friction with the European Commission.

Spanish officials point out that Spain has plenty of room to manoeuvre as it is nowhere near the three percent of GDP deficit permitted by the EU's Stability Pact.

The Stability Pact allows deficits due to an "unusual event" outside a state's control to be considered "exceptional and temporary" but only refers to cases where the country busts the three percent deficit limit - which is not Spain's case.

However, EU Monetary Affairs Commissioner Pedro Solbes said last week he saw no problem for Spain's budget.

The effects of the disaster in Galicia could persist for a long time. Local fishermen says the region's rich banks of shellfish could take years to recover and tourists could be put off by the Spanish media's blanket coverage of the spill.

The toll of similar disasters in the past has been high.

Exxon Mobil spent more than $2 billion cleaning up 34,000 tonnes of crude oil spilled in the 1989 Exxon Valdez disaster in Alaska and faces billions more in punitive damages.

Estimates of the damage in the 1999 disaster off the French coast when the tanker Erika sank, spilling some 15,000 tonnes of fuel oil, run as high as $860 million. (Additional reporting by Manuel Maria Ruiz, Carlos Ruano and Julia Hayley in Madrid, Nick Antonovics in Berlin).