European leaders seek to calm fears over debt crisis

European leaders are today battling the latest stage of the European debt crisis that has pushed Spanish and Italian 10-year borrowing costs above 6 per cent and stoked concern they could become the next victims of the crisis.

Less than two weeks after leaders of the 17-nation euro zone agreed on a second bailout for Greece, Europe's worst-hit debtor, and adopted measures meant to stem contagion to larger sovereigns, the debt crisis is back with full force.

The European Union has backed Italy and Spain but acknowledged that investors now doubt whether the euro zone can overcome its sovereign debt troubles.

Italian prime minister Silvio Berlusconi attempted to calm fears today as he addressed parliament. Mr Berlusconi told the Chamber of Deputies in Rome that Italy has "solid" economic fundamentals and liquid banks, and that its bond-market rout is due to speculation and sagging international confidence.

He said financial markets are not estimating risk correctly as the country's bond yields surge.

Italy's families have low debt, its banks are well capitalised and its public finances are in better shape than those of most major economies, Mr Berlusconi said in his speech, which had been put back until after Italian markets closed.

The prime minister said his government will see out the end of its term in 2013 and will be "up to the task" of resolving the crisis that has hit its bond market. "The country is economically and financially solid," he told parliament.

Mr Berlusconi, weakened by scandals and largely silent over the past weeks, made few specific proposals on either reform or deficit cuts. He is due to meet employers' groups and unions tomorrow to try to thrash out a plan to stimulate an economy that has been among the most sluggish in the world over the past decade.

Italian bank stocks, which have been pounded in recent days, rebounded from a slide that has seen shares in the two biggest banks drop more than 20 per cent since the start of July. The main Milan stock market index closed down 1.5 per cent, however, after hitting a 27-month low earlier on Wednesday.

In Spain, Prime Minister Jose Luis Rodriguez Zapatero returned to Madrid to discuss the worsening fiscal crisis with ministers, less than a day after departing for a holiday in the south of the country.

Mr Zapatero will meet Finance Minister Elena Salgado and government spokesman Jose Blanco this evening.

Earlier today, European Commission president Jose Barroso said the bond market developments were "a cause of deep concern".

"These developments are clearly unwarranted on the basis of economic and budgetary fundamentals in these two member states and the steps that they are taking to reinforce those fundamentals. In fact, the tensions in bond markets reflect a growing concern among investors about the systemic capacity of the euro area to respond to the evolving crisis," Mr Barroso said.

He said it was essential that the euro zone moved forward rapidly with the implementation of the deal that was agreed by the heads of State and governments a fortnight ago and "send an unambiguous signal" of the euro area's resolve to address the sovereign debt crisis.

Spanish and Italian bonds rose for the first time in six days, however, after the Swiss central bank cut interest rates, stoking speculation euro-area policy makers may also take action to ease stresses in financial markets.

German bunds swung between gains and losses today as Mr Barroso urged governments to quickly approve a planned upgrade of the euro-area rescue fund, saying the perception that leaders haven't found a "systemic" answer to the crisis is hurting investor sentiment.

But neither Mr Barroso nor European monetary affairs commissioner Olli Rehn offered any immediate steps to stem the crisis, which has flared again with full force less than two weeks after that emergency meeting.

Italian economy minister Giulio Tremonti met the chairman of euro zone finance ministers, Jean-Claude Juncker, for emergency talks after yields on Italian and Spanish 10-year bonds flirted with 14-year highs before calming a little.

They made no policy announcements after two hours of talks in Luxembourg.

The European Commission said after the meeting that there had been no discussion of a bailout for Italy, which would overwhelm the EU's existing rescue funds.

With many policymakers on holiday, there seems little prospect of immediate European policy action, although Spain said yesterday that the main euro zone governments had held telephone contacts on the situation in the markets.

The euro zone's rescue fund cannot use new powers granted at last month's summit to buy bonds in the secondary market or give states precautionary credit lines until they are approved by national parliaments in late September at the earliest.

Italy and Spain could offer new austerity measures to try to placate the markets, but Rome has just adopted a €48 billion savings package, and Spain's government has just called an early general election for November 20th.

Worries about Italy, the euro zone's third largest economy and second biggest debtor, have been exacerbated by political instability in Mr Berlusconi's fractious centre-right coalition.

Spanish and Italian 10-year yields today stood respectively at 6.28 and 6.16 per cent. The gap between them has narrowed as Italy has overtaken Spain as the main focus of market concern about debt sustainability. Shares in European banks exposed to euro zone sovereigns, particularly in Italy, took a hammering today and are having growing difficulty in securing commercial funding.

Shares in Italian banks fell further at today's opening but rebounded after data showed the Italian services sector contracted by less than expected in July.

Overall, European shares extended losses today, partly due to poor US data. Growth for the US services sector unexpectedly fell in July to its lowest level since February 2010.

Ireland will have to "monitor the situation" in international bond markets "quite closely" as Italian and Spanish bond yields rise, Minister for Transport Leo Varadkar said.

While European leaders' initial policy was one of containment, trying to contain the problem to a small number of countries, they have accepted "there is a problem with the euro zone as a whole and not just the peripherals, he told RTÉ radio this morning.

Reuters