The European debt crisis is back with a vengeance.
Spanish borrowing costs soared for a third straight day on Monday, reaching dangerous levels, as the European debt crisis posed fresh threats to the global economy and financial system, slamming markets around the world, including U.S. stocks.
The Dow Jones industrial average tumbled 200 points in early trading on Monday, on pace for the blue-chip stock index's worst day since June 21. The Chicago Board Options Exchange's volatility index -- known on Wall Street as the "fear index" -- spiked nearly 20 percent, its biggest one-day gain in eight months.
"The greatest risk to the U.S. economy and the financial system is Europe," said Sharon Stark, chief market strategist at Sterne Agee. "It has become apparent that the European leaders really don't know the extent of their problems; it reminds me of the U.S. in 2008."
Thanks for the ominous comparison, Sharon: Readers new to "financial news" or even just "news" should be aware that, by "2008," Stark is referring to the U.S. financial crisis that wrecked the global economy that year. There is a real risk that Europe's crisis could be a repeat.
Update: U.S. stocks managed a small comeback at the end of the day, with the Dow falling only 100 points and avoiding the worst single-day selloff in a month -- though including Friday's loss, this has been the worst two-day selloff in a month. And the market didn't come back because anything in Europe got solved. This isn't over yet by a long shot: Stark thinks the market turmoil could last for six to nine months.
European stocks suffered their worst selloff in eight months, according to Bloomberg. Germany's DAX index plummeted more than 3 percent. France's CAC 40 dived nearly 3 percent. Spain and Italy temporarily outlawed "short selling," or placing bets that stocks will fall. But such desperate measures typically fail to slow down selling.
Worries about how Europe will affect an already sluggish Chinese economy hammered stocks in Asia, as well. Hong Kong's Hang Seng index tumbled nearly 3 percent, and Japan's Nikkei dropped nearly 2 percent.
Crude-oil prices on the New York Mercantile Exchange declined more than 3.5 percent, falling below $90 a barrel. A global economic slowdown triggered by Europe would lead to less demand for oil and other commodities.
Much of this market carnage can be traced to Spain. The interest rate on Spanish 10-year debt surged to 7.5 percent, a record high since the creation of the euro. When other eurozone countries have had to pay 7 percent or more to borrow, they've ended up needing massive bailouts.
Maybe an even more ominous sign for market observers is that that country's short-term interest rates jumped, too, making it harder for Spain to postpone its day of debt reckoning by borrowing money for short periods.
"It is worth recalling that a decisive breach of the 7 percent sovereign bond yield level was followed by full-blown bail-outs in Greece, Ireland and Portugal before too long," John Higgins, economist at Capital Economics, wrote in a research note on Monday morning. "We continue to think that the Spanish government is on borrowed time, too."
The trouble is that a Spanish bailout could be much, much more expensive than the bailouts of those other countries, putting further strain on the entire continent's finances. It would also put more strain on the eurozone's political unity, already frayed by divisions between wealthy European nations (Germany) and the not-so-wealthy (everybody else).
Adding to worries about the future of the eurozone, there were reports out of Germany that Greece may not be able to meet the terms of its "troika" of creditors, made up of the European Commission, European Central Bank and International Monetary Fund. If Greece can't meet those terms, it might get no more bailout money, meaning it will default on its debts and be driven out of the eurozone.
Nouriel "Dr. Doom" Roubini, chairman of Roubini Global Economics, who made himself famous predicting the 2008 crisis, tweeted that the eurozone ("EZ," he called it) will not survive these latest tremors:
Endgame of EZ is starting: Greece will exit by 2013 while Italy & Spain will need a Troika program after half-baked attempts by ECB to help
Most economists doubt the eurozone will crack up soon -- but then most economists doubted Roubini's warnings about the 2008 crisis, too. Germany's economics minister said the prospect of a Greek exit from the eurozone had lost its capacity to horrify markets. But if Greece goes, market observers will start sniffing around for the next country to leave.
A breakup of the eurozone could easily sprawl into a broader financial and economic crisis, which is what has markets so worried. Europe is already in recession, hurting economic growth in Europe's trading partners around the world, from China to the United States. Spain on Monday reported its third straight quarter in a recession that some economists think could last until 2014.
An even scarier risk is that the international banking system might freeze up again, as banks and investors start to worry about the exposure of other banks to European debt.
Shares of U.S. banks seen as having exposure to Europe tumbled on such worries. Morgan Stanley's stock price was down about 3 percent. French bank Societe Generale's stock declined more than 4 percent, according to FactSet data. Deutsche Bank shares dived nearly 5 percent, according to FactSet.
The European debt crisis has flared and cooled repeatedly for more than two years now without yet causing a financial crisis like the one in 2008. That has led some investors to get increasingly complacent about the risks, thinking Europe's problems are like a chronic ailment that is occasionally annoying but never life threatening.
But this ailment could become life threatening if left unchecked. European policymakers have repeatedly arrived at last-minute solutions to avoid a broader meltdown, but the world might not always be so lucky.