Eurozone crisis threatens recovery

Stock markets tumble as debt fears spread across Continent

Stock markets across the world tumbled again yesterday as fears intensified that the fragile global economic recovery could be destabilised and the eurozone split by the deepening financial crisis in Spain, Greece and other "weak link" members of the European single currency.

Some £30bn has been wiped from the FTSE in recent days, and it lost a further 1 per cent of its value yesterday as European policymakers again failed to reassure markets that the "contagion" could be contained. The crisis could push Europe, including the UK, into a "double dip" recession. In foreign exchange markets, the euro slumped to its weakest level against the dollar since May, and its weakest level against the yen for more than a year.

Although Britain is not in the eurozone, a number of observers have pointed out that the UK's public finances are scarcely healthier than those of much-maligned Greece. Last week, the Tory leader, David Cameron, explicitly pointed to the parallels between Greece and the UK as justification for his plan to make an early, if modest, start on reducing the budget shortfall. The world's biggest bond fund, Pimco, last month warned that UK bonds were "resting on a bed of nitroglycerine".

And British banks face a near-£100bn exposure to these floundering European economies, threatening to tear another hole in their enfeebled balance sheets. Shares in banks throughout the European Union have been the hardest hit. Spain's Banco Santander, owner of Abbey, Bradford and Bingley and Alliance and Leicester, has lost 16 per cent of its value; Lloyds Group shed almost 5 per cent yesterday. Colin Ellis, of Daiwa Securities, said: "This week has seen the return of risk aversion, with a vengeance."

Greek government bonds and the Athens stock market have been mauled, and now attention has turned to Portugal and Spain. Demand for Portuguese government bonds was reportedly exceptionally weak yesterday, as the government's budget was defeated in parliament. Opposition MPs instead passed their own bill that will permit the country's autonomous regions to rack up even more debt.

The Spanish Prime Minister, Jose Zapatero, told reporters during a visit to President Barack Obama in Washington that Spain's economy is "fundamentally sound", words that usually act as cue for dealers to press the sell buttons. Mr Zapatero added: "This is not an easy moment; there are fundamental economic challenges of great magnitude for Spain and other countries."

The slide in confidence was triggered last Wednesday when the Spanish government revised its borrowing targets upwards, amid rumours that one of the leading ratings agencies would downgrade Spanish government debt. Spain, like Greece and Ireland, has announced austerity measures to cut the budget deficit, but, in all the nations, the policies are set on a collision course with the unions and other interest groups. Greek tax officials went on strike on Thursday.

The Greek Finance Minister, George Papaconstantinou, acknowledged the possibility that problems in some smaller economies could engulf the entire continental economy. This is why the Greek issue, despite its particular Greek characteristics, is also a eurozone issue. Markets have proved resistant to arguments from the Greek government that they are the victims of speculators with an "ulterior motive" to destroy the eurozone by picking on its "weak link". Greece has to raise a further €31bn (£27bn) over the next few weeks, a formidable challenge and the next crunch point.

The "domino effect", or contagion feared by analysts is now spreading rapidly through the so-called Pigs – Portugal, Ireland, Greece and Spain – the nations in the eurozone with the largest national debts and weakest public finances. They also suffer from distressingly high unemployment rates, up to 20 per cent in Spain, and long-term structural issues such as their ageing populations. Doubts persist that they will be able to service their huge budget deficits and the soaring interest burden on record-breaking national debts.

The possibility of default or, in an extreme scenario, a break-up of the eurozone is being openly discussed, though it is being resisted by all the governments concerned. Many doubt that the Pigs will be able to push through the tough economic and social reforms essential to restoring market confidence. The expectation is growing that Germany, France and other more solvent members of the currency bloc will be obliged to bail out the weaker links, and that the crisis will drag on until such a resolution is reached.

The panic is similar to the debt crisis of Dubai, which had to be rescued by its richer neighbour, Abu Dhabi. Since then, sovereign debt (securities and bonds issued by nation states) has been called "the new sub-prime", suggesting a rerun of the widespread damage that defaults on securities based on US mortgages caused in 2007. A similar downgrade and devaluation of European governments' bonds could also trigger a wider sell-off, and few believe UK gilts would be immune from the onslaught. That, in turn, would spell higher interest rates in Britain, adding hundreds of pounds a month to the average mortgage bill.

As with the original credit crunch, this second crunch would devalue bank balance sheets where they hold substantial stocks of government bonds, reducing the banks' ability to support lending into the real economy. That could lead to a "double dip" recession.

And signals are mixed about whether the German government would contemplate a bail-out of the Pigs. The German Economics Minister, Rainer Bruederle, told the Bundestag recently, to applause, that "some euro states are showing dangerous weakness ... This may have fatal effects on all states in the eurozone".

The EU has no formal process to deal with a national debt crisis, because it was never supposed to happen. The Maastricht Rules, framed in the 1993 treaty that laid the basis for the euro, were suspended early during the recession and have been widely flouted. The rules were also designed to reassure German voters who feared fiscal irresponsibility in some member states would leave them with huge bills for bail-outs. That now seems inevitable.

Joseph Stiglitz, the Columbia University professor and Nobel laureate, said: "The European Union should have a fund to help member nations in need of financial aid such as Greece. Deficit fetishism is a mistake."

Start your day with The Independent, sign up for daily news emails
PROMOTED VIDEO
ebooks
ebooksA special investigation by Andy McSmith
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs General

Tradewind Recruitment: English Teacher

Negotiable: Tradewind Recruitment: My client is an excellent, large partially ...

Tradewind Recruitment: Science Teacher

£90 - £140 per day: Tradewind Recruitment: I am currently working in partnersh...

Tradewind Recruitment: Year 3 Primary Teacher

£100 - £150 per day: Tradewind Recruitment: Year 3 Teacher Birmingham Jan 2015...

Ashdown Group: Lead Web Developer (ASP.NET, C#) - City of London

£45000 - £50000 per annum + Excellent benefits: Ashdown Group: Lead Web Develo...

Day In a Page

Isis hostage crisis: The prisoner swap has only one purpose for the militants - recognition its Islamic State exists and that foreign nations acknowledge its power

Isis hostage crisis

The prisoner swap has only one purpose for the militants - recognition its Islamic State exists and that foreign nations acknowledge its power, says Robert Fisk
Missing salvage expert who found $50m of sunken treasure before disappearing, tracked down at last

The runaway buccaneers and the ship full of gold

Salvage expert Tommy Thompson found sunken treasure worth millions. Then he vanished... until now
Homeless Veterans appeal: ‘If you’re hard on the world you are hard on yourself’

Homeless Veterans appeal: ‘If you’re hard on the world you are hard on yourself’

Maverick artist Grayson Perry backs our campaign
Assisted Dying Bill: I want to be able to decide about my own death - I want to have control of my life

Assisted Dying Bill: 'I want control of my life'

This week the Assisted Dying Bill is debated in the Lords. Virginia Ironside, who has already made plans for her own self-deliverance, argues that it's time we allowed people a humane, compassionate death
Move over, kale - cabbage is the new rising star

Cabbage is king again

Sophie Morris banishes thoughts of soggy school dinners and turns over a new leaf
11 best winter skin treats

Give your moisturiser a helping hand: 11 best winter skin treats

Get an extra boost of nourishment from one of these hard-working products
Paul Scholes column: The more Jose Mourinho attempts to influence match officials, the more they are likely to ignore him

Paul Scholes column

The more Jose Mourinho attempts to influence match officials, the more they are likely to ignore him
Frank Warren column: No cigar, but pots of money: here come the Cubans

Frank Warren's Ringside

No cigar, but pots of money: here come the Cubans
Isis hostage crisis: Militant group stands strong as its numerous enemies fail to find a common plan to defeat it

Isis stands strong as its numerous enemies fail to find a common plan to defeat it

The jihadis are being squeezed militarily and economically, but there is no sign of an implosion, says Patrick Cockburn
Virtual reality thrusts viewers into the frontline of global events - and puts film-goers at the heart of the action

Virtual reality: Seeing is believing

Virtual reality thrusts viewers into the frontline of global events - and puts film-goers at the heart of the action
Homeless Veterans appeal: MP says Coalition ‘not doing enough’

Homeless Veterans appeal

MP says Coalition ‘not doing enough’ to help
Larry David, Steve Coogan and other comedians share stories of depression in new documentary

Comedians share stories of depression

The director of the new documentary, Kevin Pollak, tells Jessica Barrett how he got them to talk
Has The Archers lost the plot with it's spicy storylines?

Has The Archers lost the plot?

A growing number of listeners are voicing their discontent over the rural soap's spicy storylines; so loudly that even the BBC's director-general seems worried, says Simon Kelner
English Heritage adds 14 post-war office buildings to its protected lists

14 office buildings added to protected lists

Christopher Beanland explores the underrated appeal of these palaces of pen-pushing
Human skull discovery in Israel proves humans lived side-by-side with Neanderthals

Human skull discovery in Israel proves humans lived side-by-side with Neanderthals

Scientists unearthed the cranial fragments from Manot Cave in West Galilee