In wake of Athens protests, Europe confronts fears Greek debt crisis could engulf wider region

Europe faces debt contagion fear

LONDON — As Europe works to douse its government debt crisis the flames just keep spreading, with the euro and U.S. stocks sinking Thursday along with confidence that politicians and central bankers can act fast enough to save the continent from an economic tailspin.

Those fears sparked extreme turbulence on Wall Street, as the Dow Jones industrial average lost almost 1,000 points in a sudden dive mid-afternoon New York time. There were reports a trading error hastened the selling.

Down almost 9 percent at one point, the Dow recovered to end off 3.2 percent. European stock markets had already closed by the time of New York’s violent drop, ending with more modest losses. Britain’s FTSE 100 index fell or 1.5 percent, while Germany’s DAX ended down 0.8 percent. The CAC-40 in France was off 2.2 percent.

U.S. markets fell even after lawmakers approved drastic austerity cuts Thursday needed to secure international rescue loans worth euro110 billion ($140 billion).

Europe’s top central banker downplayed the risks of contagion — but ratings agency Moody’s rattled markets by warning that banks in Portugal, Italy, Spain, Ireland and Britain could all be hurt by a widening debt crisis.

The euro sagged 1.7 percent to $1.2607 after ratings agency Moody’s warned that banks in Portugal, Italy, Spain, Ireland and Britain could all be hurt debt crisis, and after European Central Bank president Jean-Claude Trichet offered no new measures against the debt troubles. It was as high as $1.51 late last year.

Nerves were further frayed by an ominous rise in Spain’s borrowing costs at a debt auction — a clear sign of fear as investors demand higher rates from borrowers they consider riskier.

European leaders acknowledged they were at a difficult point in their struggle to contain the debt crisis. They have agreed to join with the International Monetary Fund to bail out Greece with euro110 billion in loans over three years, but fears of more trouble have not subsided.

That money is expected to reach Greece in time for it to make a May 19 debt payment it says it can’t make without the help.

But its longer term prospects for avoiding bankruptcy are uncertain, and other governments with weak finances are facing debt downgrades and seeing their borrowing costs creep up as markets see them as riskier.

Those worries have pushed down stocks and raised fears that Greece is just the leading edge of another phase of the world financial turmoil, this time focused on government debt instead of banks or mortgages.

After months of delays in which Greece’s debt crisis threatened to spiral out of control, European leaders are now stressing their willingness to act in support of their 11-year-old project in sharing a currency.

German Chancellor Angela Merkel and French President Nicolas Sarkozy wrote in a letter published in daily Le Monde Thursday that they were “fully committed to preserve the solidity, stability and unity of the euro zone.”

They called for giving new teeth to the basic rules underpinning the euro — rules that mandate limits on government spending but which have been treated as an honor system and flouted for years by European governments.

“For economic and monetary union to remain a success story, dealing with this crisis alone will not suffice. We need to go further in drawing all the lessons and in taking all necessary measures to avoid a repetition of a crisis of this kind,” the letter says.

They call for “reinforcing fiscal surveillance within the euro area, including by providing for more effective sanctions” against those who violate deficit limits.

German Finance Minister Wolfgang Schaeuble said the governments that use the euro must “avoid under any circumstances the bankruptcy of Greece because the consequences would be unforeseeable and irresponsible.” The German parliament was getting ready to vote Friday on Germany’s share of the Greek bailout.

The concern is that more bailouts and financial pain for banks are in the offing, as well as more stress on Europe’s project of economic and political integration.

European Central Bank President Trichet played down contagion fears after the bank left interest rates unchanged at 1 percent. “Portugal and Greece are not on the same boat, and this is very visible when you look at the facts and figures,” he told reporters after the rate decision in Lisbon. “Portugal is not Greece. Spain is not Greece.”

Trichet unveiled no new measures to fight the contagion, stressing governments needed to get their budgets in shape.

EU Industrial Commissioner Antonio Tajani, an Italian, rejected Moody’s assessment of his home country — an increasingly common stance for European officials frustrated by a string of downgrades that have fed the crisis mood.

“One needs to be serious and prudent when making these judgments,” he said in Brussels.

France was expected to approve its bailout commitment Thursday while Parliament in Germany, where the rescue package is unpopular, is expected to vote Friday. Chancellor Angela Merkel’s governing coalition appeared to have the votes to pass it, with even opposition politicians signaling support.

Despite market speculation to the contrary, the ECB said Thursday that it did not discuss buying government bonds in the markets as a way of easing the debt crisis. Trichet unveiled no new crisis measures, but held out the possibility that the bank was “permanently on the alert and capable of taking the appropriate decisions even if they are unconventional.”

The ECB has already dropped the minimum rating requirement for banks to use Greek bonds to get short-term central bank credits, key support for Greece and the banking system in case Greece’s credit is downgraded further.

An improvement in market sentiment will be needed if borrowing costs are to be kept in check — Spain’s latest 5-year bonds were issued at an interest rate of 3.58 percent, up from 2.84 percent in the last auction as recently as March.

Moody’s warning on contagion came only a day after it put Portugal on watch for a possible downgrade of its sovereign debt and a week after rival Standard & Poor’s downgraded Greece’s government bonds to junk status.

Moody’s said the banking systems of Portugal, Italy, Spain, Ireland and Britain all face challenges of different types, but warned that “contagion risk could dilute these differences and impose very real, common threats on all of them.”

Associated Press writers Pan Pylas in London, Angela Charlton in Paris, Elena Becatoros in Athens, Colleen Barry in Milan and David Rising and Verena Schmitt-Roschmann in Berlin contributed to this report.