|Investors believe Portugal will not be able to deal with its debt problems on its own [GALLO/GETTY]
Portugal has had its debt grading cut for the second time in weeks as the country struggles with severe economic and political problems.
Moody's Investors Service downgraded its rating on Portugal's bonds by one notch on Tuesday to Baa1 from A3 and warned it could suffer another cut soon because of political and economic uncertainties.
Cutting Portugal's debt rating by another three notches would see its bonds considered as junk.
The agency said it was "driven primarily by increased political, budgetary and economic uncertainty, which increase the risk that the government will be unable to achieve [its] ambitious deficit reduction targets" in the period 2011-2014.
It comes after other cuts by Moody's and other ratings agencies after the previous government resigned when Portugal's parliament rejected an austerity package aimed at curbing the country's spiralling debt. A general election is due on June 5.
Investors appear to believe that Portugal will not be able to deal with its record borrowing costs on its own, and that it will seek outside help in a similar manner to Greece and Ireland.
Portugal's 10-year bonds were up a further 0.04 per cent on Tuesday morning in a sign that markets are demanding higher rates of return.
On Monday, the rate of return on Portugal's benchmark 10-year bonds rose for a 10th straight session to record highs near 8.5 per cent, an unsustainable level to have to pay for long-term funding.
Moody's said it believes that the government's current cost of funding is "nearing a level that is unsustainable, even in the short-term".
The government had aimed for a public deficit of 7.3 per cent of gross domestic product in 2010 but this was revised up to 8.6 per cent, even further away from the EU limit of 3.0 per cent. The target for this year is 4.6 per cent.
Moody's warned that the terms of the recently agreed European Stability Mechanism (ESM), which replaces the current bailout fund, "contemplates debt restructuring as a distinct possibility," meaning that investors could lose money by investing in Portuguese bonds.
The ESM is to replace in 2013 the European Financial Stability Facility (EFSF) set up last year after the EU and International Monetary Fund bailed out Greece in May to prevent a debt default.