Spain will announce a series of economic reforms and a tight 2013 budget on Thursday, aiming to avoid the political humiliation of having Brussels impose conditions on a request for an international bailout.
Prime Minister Mariano Rajoy will enact further cutbacks as his efforts to bring down one of the euro zone's largest public deficits have been undermined by falling tax revenues in a recession.
"We know what we have to do, and since we know it, we're doing it," Rajoy said in a speech in New York on Wednesday.
"We also know this entails a lot of sacrifices distributed ... evenly throughout the Spanish society," Rajoy said in an address to the Americas Society.
Thousands of anti-austerity demonstrators demanding that Rajoy resign gathered for a second night on Wednesday in Madrid near the national parliament, which was guarded by hundreds of police.
Reforms intended to win over sceptical investors and control spending are likely to include a new tax oversight body as recommended by Brussels, limitations on early retirement, new taxes on greenhouse emissions and stock transactions and eliminating some tax exemptions.
Wage freezes for public servants will also be extended into 2013, trade union sources said.
Spain is negotiating the terms of a European aid package that would trigger a European Central Bank bond-buying programme and ease Madrid's unsustainable borrowing costs. The reforms to be announced on Thursday are meant to pre-empt the conditions that would be attached to the aid.
Uncertainty over the timing of the aid request and divisions within the European Union over a plan to create a banking union sent the interest rate on Spain's benchmark 10-year bond above 6 percent on Wednesday for the first time since ECB President Mario Draghi announced the plan in early September.
Spain, the euro zone's fourth largest economy, is at the centre of the crisis, and investors fear that Madrid cannot control its finances and that Rajoy does not have the political will to take unpopular measures.
Figures released on Tuesday suggested Spain will miss its public deficit target of 6.3 percent of gross domestic product this year, and on Wednesday the central bank said the economy continued to contract sharply in the third quarter.
Critics say Rajoy's measures lack substance and fail to outline convincingly how they will raise the necessary cash.
"On paper they can make it all add up, but it will be hard to make the budget credible given all the reasonable doubts on the deficit target. It will be really tough to make the markets buy it," said a member of parliament for the ruling party, who asked not to be named.
LITTLE ROOM TO MANOEUVRE
Sweeping tax hikes and spending cuts introduced in July mean the government has little room to manoeuvre.
After street protests against austerity measures turned violent on Tuesday, Rajoy may choose to tread carefully and avoid further cuts to the welfare system, but with pensions one of the largest spending costs, further belt-tightening may be unavoidable.
"In order to make credible adjustments in the eyes of the markets, there really is only the pensions," said Juan Ignacio Conde-Ruiz, an economist at Madrid's Complutense University.
European diplomats are exerting pressure on Madrid to freeze pensions, though the Rajoy government has been adamant that it would only reform pensions as a last resort.
The 2012 budget, which was delayed after the previous Socialist government passed the baton in advance of the November national election, was further held up by Rajoy until after regional elections in Andalusia in March.
"The wait for the Andalusia elections sent a very negative signal on what we could expect from the new government. They say they'll do whatever needs to be done, but that needed to be done and when it wasn't, it hit credibility," said Luis Carames, economist at the University of Santiago de Compostela.
Elections in Galicia, the region where Rajoy was born, and in the Basque Country on October 21 could partly explain his procrastination over the aid application.
(Editing by Fiona Ortiz, Julien Toyer and Giles Elgood)