European financial markets felt panic Tuesday July 12, as investors were worried the debt crisis would spread to Italy and Spain. Finance ministers only offered only vague new support measures which contributed to the panic.
Stocks, the euro and government bonds tumbled, with the yield on 10-year Italian bonds hitting 6.01 per cent — more than one percentage point higher than where it was just two weeks ago. The Spanish equivalent jumped to 6.28 per cent, up from 6.1 per cent at the open.
Higher yields indicate investors see the countries as increasingly risky to lend to, and make borrowing more expensive for the government, increasing its debt problems.
The Eurozone’s euro750 billion bailout fund has managed to temporarily rescue smaller Greece, Ireland and Portugal from such interest rate spirals. But Italy and Spain, the third- and fourth-largest economies in the Eurozone, are widely seen as too big to bail out should they run into serious trouble.
The euro lost 0.9 per cent, dropping to $1.3906, while stock markets throughout Europe traded lower. The Milan exchange’s main index lost 4.4 per cent while Madrid’s fell 3.2 per cent.
Late Monday night, Eurozone finance ministers came up with sketchy proposals to let the rescue fund buy back government bonds, and to reduce the interest rate and repayment periods for its loans. Those measures would take some heat off bailed-out countries, if implemented.
But details were lacking, and analysts at Commerzbank dismissed the proposal as a “tranquilizer” unlikely to calm market turmoil.
Ministers are still working on a second bailout package that would secure Greece from default through 2014, following a first bailout last year that failed to put the country back on its feet.
“A solution for the Greek debt problem needs to be found urgently,” the Commerzbank research note said. “Only in that case is there a chance that the debt crisis does not spread further.”
Eurozone ministers turned Tuesday to another part of their anti-crisis strategy, stress tests aimed at forcing weak banks to raise more capital. Strengthening banks is key because they are major holders of government bonds issued by the financially troubled countries, and a default or restructuring could deal a serious shock to a financial system still in recovery from the crisis that followed the collapse of U.S. investment bank Lehman Brothers in 2008.
“We will be discussing possible measures regarding the stress tests, and what we will have to do in case some of the banks would not succeed in this test, that is why these tests are being done,” said Luc Frieden, Luxembourg’s finance minister.
Asked if he thought some banks would fail the tests, he said, “I don’t know but I think if you do stress tests it’s to be prepared for all situations.”
A round of stress tests last year were considered too easy, papering over problems at Irish banks that later had to be bailed out.
