Concern on debt contagion deepens

 

Global concern about the debt crisis rocking the euro zone mounted today, with Washington sending a top US Treasury envoy to Europe and G20 officials discussing the turmoil in a conference call.

A day after investors pushed the risk premiums on Spanish and Italian government debt to new highs, the bond spreads of countries on Europe's southern periphery narrowed and the euro steadied on speculation that the European Central Bank could unveil new anti-crisis steps at a meeting tomorrow.

But calmer markets failed to remove deep worries about contagion in the 16-country euro region that has pushed European policymakers onto the defensive and forced them to search for new ways to stabilise their 12-year-old currency project.

An EU-IMF rescue of Ireland last weekend and public reassurances from European politicians and central bankers have been largely ignored by  investors, who have targeted Portugal, Spain and Italy, intent on testing the EU's resolve and crisis-fighting resources.

Yields on Irish 10-year bonds dipped below 9 per cent this afternoon, down 0.408 per cent from its opening level.

Finland's finance minister Jyrki Katainen said no one can guarantee that the European debt crisis won't spread. Still, the Irish bailout will "soften the blow" on the European economy, Mr Katainen said.

Mr Katainen spoke in the Finnish parliament in Helsinki today. Finland's parliament will vote on the country's participation in guarantees to the Irish loans at 4pm local time tomorrow. Ireland's fall would be a "jump into the dark," Mr Katainen said.

The euro edged higher today, trading at $1.3060 after dipping to a 10-week low against the dollar yesterday. The premium investors demand to hold Portuguese, Spanish and Italian bonds instead of German benchmarks fell on speculation the ECB could take new anti-crisis steps tomorrow.

"You may think and you sometimes read that Europe is in chaos, disintegrating, the euro about to disappear. This is wrong," Klaus Regling, the head of the EU's temporary rescue mechanism, said in a speech in Singapore.

Yesterday, European Central Bank (ECB) chief Jean-Claude Trichet tried to damp down mounting turmoil in the euro zone, saying he knows of nothing that would threaten the stability of the single currency in a fundamental way.

Mr Trichet told MEPs that the situation was “very, very difficult” as markets endured yet another rocky day, but said the determination of the EU authorities to overcome the crisis should not be dismissed.

Reflecting global concerns about the euro zone crisis, the US Treasury announced late yesterday that it would dispatch Undersecretary for International Affairs Lael Brainard to Europe this week to discuss the turmoil.

Ms Brainard will visit Madrid, Berlin and Paris to discuss "economic developments in Europe" and the "shared agenda on strong and sustainable growth", the Treasury said.

G20 sources said deputy finance ministers from the group of major rich and developing nations had discussed the financial situation in Europe on Monday in a previously arranged conference call, although they described the call as routine.

EU plans to make private bond holders shoulder some of the pain from any sovereign debt restructuring after mid-2013 have led investors to reassess the risk of putting their money in the government bonds of high-deficit countries.

At the European Parliament in Brussels, however, Mr Trichet pointed to a “positive underlying momentum” in the economic recovery of the euro zone after the worst recession since the second World War.

Mr Trichet will preside over a key meeting in Frankfurt tomorrow of the ECB’s governing council, at which it will determine how much exceptional support for Europe’s banks will remain in place beyond January. The meeting will be closely watched, as investors are anxious to see whether the ECB takes any steps to slow down its efforts to scale back crisis support for the banking sector.

Mr Trichet gave no clue as to the ECB’s intentions, but sought to ease the tension that has roiled the euro zone since Ireland came under pressure to accept external aid.

“I don’t believe financial stability in the euro zone, given what I know, could really be called into question in a serious way. Now, OK, for the moment, we can see that there is a problem; but I don’t think it will really be called into question fundamentally . . .” he said.

“I would say, by the way, that pundits are tending to underestimate the determination of governments and the determination of the college that makes up the euro group, and indeed the 27-member state council.”

His comments, in the late afternoon, had little impact on markets.

Meanwhile, Germany has resisted pressure from countries such as France to turn the euro zone into a "fiscal union" in which member states sacrifice sovereignty over economic policy for the good of the group.

Chancellor Angela Merkel is also sceptical about putting up more funds for bailouts, concerned that German taxpayers would end up shouldering the lion's share of a string of rescues of countries which Berlin believes have made themselves vulnerable through economic mismanagement.

Peter Bofinger, a member of the "wisemen" panel of economic advisers to the German government, said the risks to the euro were "enormously large" and Germany needed to decide whether it wanted to let the currency fail or do more to save it.

"For me it is decisive that we ask ourselves in Germany whether we want to continue to have the euro or not," Mr Bofinger told Germany's NTV television late yesterday. "We must have this discussion because we must ask ourselves whether we find it worth it to stand up for it."

European bank stocks also rebounded strongly after losses yesterday.

The Irish market was up 39.86 points to 2,685.86 at 3.47pm, with bank shares mixed. AIB fell this afternoon, down to 34 cent, but Bank of Ireland and Irish Life and Permanent both rose.

Bank of Ireland shares rose to 32.1 cent, while IL&P was at €1.01.

Additional repoting: Reuters