A European summit deal to strengthen budget discipline in the euro zone failed to restore financial market confidence on Monday, forcing the European Central Bank to step in again gingerly.
The euro fell, stocks slid and borrowing costs for Italy and Spain rose as investors weighed the outcome of last week's summit that split the European Union, with Britain blocking treaty change and forcing euro zone countries to negotiate a fiscal accord outside the Union.
Friday's initial market rally petered out in less than 24 trading hours due to legal uncertainty surrounding the new pact and the absence of an unlimited financial backstop for the single currency.
French President Nicolas Sarkozy said the legal basis of a new accord to enforce debt and deficit rules in the 17-nation euro area with quasi-automatic sanctions and intrusive powers to reject national budgets would be worked out before Christmas.
"In the next fortnight, we will put together the legal content of our agreement. The aim is to have a treaty by March," Sarkozy told newspaper Le Monde in an interview.
"You have to understand this is the birth of a different Europe -- the Europe of the euro zone, in which the watchwords will be the convergence of economies, budget rules and fiscal policy. A Europe where we are going to work together on reforms enabling all our countries to be more competitive without renouncing our social model," he said.
Traders said the ECB intervened to buy short-term Italian debt after yields on Italian and Spanish debt spiked. But ECB sources told Reuters last week that purchases would remain limited with a maximum ceiling of 20 billion euros a week.
There is no prospect of a "big bazooka" to shock the markets.
Despite the central bank dabbling, Italian 5-year bond yields shot up above 7 percent, widely seen as a danger level while 10-year yields spiked above 6.8 percent and Spanish 10-year yields topped 6 percent.
Investors' appetite for short-term paper drove Italian one-year borrowing costs down just below 6 percent at an auction but yields remain uncomfortably high.
"Let's not raise expectations too high, there will be more summits," credit ratings agency Standard & Poor's chief European economist Jean-Michel Six said.
"Time is running out and action is needed on both sides of the equation, on the fiscal and monetary side," he told a business conference in Tel Aviv.
S&P has put 14 euro zone governments on watch for a possible rating downgrade in the coming weeks, arguing that the deepening debt crisis and looming recession will increase their potential liabilities and reduce their ability to cope with them.
If some of the euro zone's 'AAA'-rated members are downgraded, it would call into question the solidity of the euro zone's rescue fund, which would likely suffer a similar fate.
"There is probably yet another shock required before everyone in Europe reads from the same page, for instance a major German bank experiencing difficulties in the market," Six said. "Then there would be a recognition that everyone is on the same boat and even German institutions can be affected by this contagion."
Interbank lending rates in the euro zone fell to their lowest level since May after the ECB threw cash-starved banks a lifeline last week by offering unlimited three-year liquidity to counter a credit crunch.
Euro zone crisis graphics r.reuters.com/hyb65p
Political aftershocks from Friday's historic rift between Britain and the rest of the 27-nation bloc continued to shake Europe on Monday with Prime Minister David Cameron facing tension in his coalition and doubts in the business community.
Cameron was assured of a hero's welcome from Eurosceptics in his Conservative party in parliament but faced a backlash from his Liberal Democrat coalition allies when he explains a veto that has cast Britain adrift from its continental partners.
LibDem Deputy Prime Minister Nick Clegg said on Sunday he was "bitterly disappointed" with an outcome that would diminish Britain's global influence and was bad for jobs and business.
In business, the chief executive of the world's largest advertising group, Martin Sorrell of London-based WPP, told Reuters that Britain's interests would be better serviced "inside the EU tent" than on the sidelines.
In Brussels, officials were groping for a strong legal basis for the planned fiscal compact, with Britain arguing that the euro zone cannot use the EU treaty institutions -- the European Commission and the European Court of Justice.
European Economic and Monetary Affairs Commissioner Olli Rehn told Reuters most of the practical measures to strengthen budget enforcement could be implemented immediately under a set of rules known as the "six-pack" agreed in October.
Euro zone finance ministers may hold an extra meeting before the end of the year to try to nail down details of the agreement before their winter break, diplomats said.
The euro area faces the next potential crunch point in mid-January when Italy, which has a debt mountain of 1.9 billion euros or 120 percent of its annual output, has to start issuing tends of billions of euros in bonds towards a 2012 total of 340 billion euros needed to roll over maturing debt.
Michael Leister, rate strategist with German bank WestLB in Duesseldorf, said the summit outcome had done little to restore confidence in the absence of stronger central bank action.
"The question is will this help to stabilize sentiment? I don't believe so, given that those comments from (ECB President Mario) Draghi ruling out a bazooka during the ECB conference are still weighing on spreads," he said.
(Additional reporting by Alexandra Za in Milan, Keith Weir and Sudip Kar-Gupta in London,; Writing by Paul Taylor, editing by Mike Peacock)
Copyright 2011 Thomson Reuters. Click for Restrictions.
13/12/2011 15:17 GMT
State Bailouts For European Banks May Be Necessary, Spurring 'Vicious Cycle': Report
Banks that need to raise extra capital to meet the European Banking Authority's capital requirements may need to turn to their governments for help, and that could spur a vicious cycle of rising borrowing costs for European governments and increasing strains on banks, Bloomberg News reported on Sunday.
The European Banking Authority ordered banks in the European Union last week to raise $154 billion in new capital by June of 2012. But not all banks may be able to meet those requirements, especially since 70 percent of banks that need to raise new capital reside in countries that are in danger of default, according to Bloomberg. If governments aid their banks, then investors would lose more faith in those countries' abilities to pay their debts and demand higher interest rates, which would further trouble banks' balance sheets.
"If the Southern governments put money in their banks, their sovereign debt will go up, exacerbating their problems," Karel Lannoo, chief executive of the Centre for European Policy Studies in Brussels, told Bloomberg. "Then the banks' losses will rise because they hold the government debt. That’s a vicious cycle. It's hard to know which one to stabilize first, the sovereign bonds or the banks."
12/12/2011 23:24 GMT
Market Panic Hurting European Economy: Fitch Ratings Director
Gergely Kiss, director at Fitch Ratings, said in an interview with The Huffington Post that "financial tension" in Europe is "feeding slowly into the real economy."
"There is the fear that this will have an impact on domestic demand," he said.
Fitch Ratings released a report today forecasting that the eurozone economy would grow 0.4 percent in 2012, with growth slowing throughout the year.
12/12/2011 23:16 GMT
German Bank In Talks With Government About Possible Bailout: Report
The German bank Commerzbank is in talks with the German government about the possibility of obtaining a bailout, Reuters reports.
Commerzbank, the country's second-largest ban has said that it wants to avoid a bailout but still needs to raise $7 billion in capital by the summer of 2012 to meet the European Banking Authority's requirements, according to Reuters. Commerzbank is 25 percent owned by Germany.
12/12/2011 23:03 GMT
Niall Ferguson: Europe Could Cause Great Depression
Harvard historian Niall Ferguson wrote in a column on Friday that Europe is in danger of repeating the mistakes of the early 1930s, when the Great Depression became truly great. He wrote:
In the past few months, incompetent leadership has brought the euro-zone economy, and with it the world economy, to the edge of a precipice strongly reminiscent of 1931. Then, as now, it proved impossible to arrive at sane debt restructurings for overburdened sovereigns. Then, as now, bank failures threatened to bring about a complete economic collapse. Then, as now, an excessively rigid monetary system (then the gold standard, now the euro) served to worsen the situation....
The course on which the continent has now embarked means not just the creation of a federal Europe, but a chronically depressed federal Europe. The Eurocrats have exchanged a Stability and Growth Pact—which was honored only in the breach—for an Austerity and Contraction Pact they intend to stick to. The United Kingdom has no option but to dissociate itself from this collective suicide pact, even if it strongly increases the probability that we shall end up outside the EU altogether.
12/12/2011 22:53 GMT
Hussman: European Debt Crisis Helps Cause 'Unusual Concern'
John Hussman, president of Hussman Investment Trust, wrote in a report on Monday that "the present market environment warrants unusual concern" largely because the European Central Bank is unlikely to come to the rescue in Europe. He wrote:
Read [Mario] Draghi's lips: the ECB will not be initiating massive purchases of distressed European debt unless and until the EU Treaties themselves are explicitly changed.... In effect, if a fiscal union is achieved without treaty changes, the ECB is unlikely to act. But even if treaty changes are achieved, the ECB is unlikely to act forcefully unless those changes are credible. Of course, if the changes are credible, then forceful actions will not be needed anyway. In any event, the problem for bailout-hungry investors is that they will be deeply disappointed if they expect Mario Draghi to turn into Ben Bernanke.
12/12/2011 18:37 GMT
Paul Hockenos: A European German Has Become A German Europe
Author and political analyst Paul Hockenos writes in Foreign Policy that the European debt crisis includes Germany:
Also, there's yet another level of German hypocrisy in its holier-than-thou protestations concerning the poor periphery's debt. All of Europe is highly indebted and while the European-side of the transatlantic crisis opened on the shores of the Mediterranean, it is now an pan-European crisis -- and that includes Germany, one of the first countries to breach the Maastrict debt ceilings. According to I.M.F. numbers, gross government debt in Germany will be nearly 83 percent of gross domestic product by 2012.
12/12/2011 17:35 GMT
Why Should Teens Care About Euro Crisis?
Over on HuffPost High School blogger Devon Kerr has a good simple explainer on the crisis for teenagers. It's worth a look for anyone trying to figure out what's going on. Read it on HuffPost High School.
12/12/2011 17:30 GMT
U.S. Stocks Plunge
American stocks plunged on Monday as investors became increasingly fearful that the eurozone debt crisis did not reach a resolution at all at last week's summit for the European Union in Brussels. The Dow Jones Industrial Average fell 224.86 points as of 12:21 p.m. ET, and the S&P 500 fell 2.01 percent, according to Google Finance.
The U.S. stock market plunge, following a two-week rally, was due in part to Moody's Investors Service's announcement that it would review the credit ratings of all countries in the European Union, according to Bloomberg News.
"The European stopgap may not be successfully implemented," Stanley Nabi, vice chairman of Silvercrest Asset Management Group, told Bloomberg, referring to the deal reached last week. "In order for this program to be successful, there’s going to have to be a lot of belt tightening. That means that the European economy is not going to do well at all. That would have negative impact on other countries around the globe."
12/12/2011 17:26 GMT
Fitch Ratings Lowers Global Economic Growth Outlook
The credit ratings agency Fitch Ratings said in its global economic outlook report that it expects major advanced economies to grow just 1.2 percent in 2012, less than in 2011.
Fitch said that it expects growth in the eurozone to weaken to 0.4 percent in 2012 because of budget cuts across the continent and tighter credit. Fitch added it expects the economic output of Italy -- the eurozone's third largest economy, which investors fear could default on its debt -- to shrink 0.5 percent in 2012.
12/12/2011 16:11 GMT
Munchau: Eurozone Faces 'Loss of Confidence'
Wolfgang Munchau, associate editor of The Financial Times, wrote in a column that the summit in Brussels last week was a failure, and that European leaders should have admitted it. He wrote:
The eurozone is facing a generalised loss of confidence. Investors no longer trust its crisis management, the solidarity of its citizens, even the ability to conduct sensible economic policies. The EU is not going to restore confidence through legal gimmickry that will face numerous court challenges....
Remember what everybody said a week ago? To solve the crisis, the eurozone requires, in the long run, a fiscal union with a prospect of a eurozone bond and, in the short run, unlimited sovereign bond market support by the European Central Bank. What we now have is no treaty change, no eurozone bond and no increase either in the rescue fund or in ECB support.
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