Global financial markets are in for a turbulent time as investors worry that the eurozone sovereign debt crisis has now gone viral, and is threatening to claim further debt-laden victims.
The €85 billion ($US113 billion) rescue package for Ireland that was hastily cobbled together over the weekend failed to convince markets that the debt crisis had been contained.
Instead, they continued to speculate that Portugal would likely be the next victim of the debt crisis, and that this could pose major problems for Spain, which has close economic ties to Portugal, and whose banks have heavy exposures to Portuguese debt.
There were also worries that Germany is becoming weary of bailing out weaker eurozone countries, and is insisting on more stringent conditions. For instance, Ireland had to pay an interest rate of 5.8 per cent on its bailout funds, significantly higher than the 5 per cent interest rate that Greece was charged on its €110 billion bailout earlier in the year. What’s more, Irish pension funds contributed €17.5 billion euros towards the country’s rescue package.
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These worries translated into sharp declines in European share markets, and steep rises in borrowing costs for countries considered to be at risk of eurozone debt contagion.
Spanish long-term bond yields hit fresh record euro-era highs, climbing 25 basis points to 5.41%, while yields on 10-year Italian bonds climbed 21 basis points to 4.62%. Meanwhile, Portuguese 10-year bond yields rose 14 basis points to 6.84%. There are widespread fears that the country will find it difficult to service its debts – and will be forced to request a bailout package – unless its borrowing costs drop sharply.
But there are increasing worries about the financial burden that future bailouts will impose on the eurozone’s two largest economies – Germany and France. German bunds – seen as the eurozone benchmark – edged higher overnight, reflecting concerns about the cost of future bailouts, and the heavy exposure of German banks to some of the debt-laden eurozone countries.
French Finance Minister, Christine Lagarde, tried to reassure financial markets, saying that a headline in a French Sunday newspaper “Financial crisis: France threatened” was not justified on economic grounds. In a radio interview overnight she pointed out that France enjoyed borrowing costs that were similar to those of Germany, the Netherlands, Austria and Finland.
At the same time, the European Commission, which released new economic forecasts overnight, said that the reappearance of tensions in sovereign markets was worrying. The EC estimated that growth in the eurozone would drop to 1.5% next year, before picking up to 1.8% in 2012.
But the figures revealed a growing divide, with Germany and its close neighbours enjoying solid economic expansion, while other countries that are faced with the task of reducing huge budget deficits face sluggish growth rates.
A similar pattern is expected to play out in labour markets. Brussels expects average unemployment in the eurozone to drop to 10% next year. But while German joblessness is tipped to fall from 7.3% in 2010 to 6.7% in 2011, Spanish unemployment is expected to average 20.2% next year, which is slightly higher than this year.
Many investors worry that the European Central Bank adjusts its interest rate policy to reflect conditions in the strongly performing German economy. This leaves the weaker eurozone countries battling with overly-tight monetary conditions at the same time as they are slashing government spending and raising taxes.
This article first appeared on Business Spectator.