Investors fled from Portuguese, Italian and Spanish debt, sending yields rocketing to their highest levels since the euro started.
The yields on Italian and Spanish 10-year bonds also hit record levels against so-called safe-haven German debt.
Pressure mounted on Portugal, whose spreads also crept higher, as its central bank warned the country’s lenders face an “intolerable risk” unless the government manages to get a grip on public spending. The core state deficit has widened 1.8 per cent so far this year.
Portugal is desperate to avoid being the next Eurozone domino to fall, with Prime Minister Jose Socrates adamant he can pull the country through without needing a bailout.
But fears are growing that he will be unable to meet targets laid out in the austerity budget pushed through last week, which would almost certainly condemn the country to a rescue package.
Ratings agency Standard & Poor’s put Portugal’s sovereign debt on downgrade watch yesterday, warning that Socrates’ policies “have done little to boost labour flexibility and productivity” and that the nation’s fight to lower the deficit will cause the economy to dip two per cent in real terms next year.
Elsewhere, Spanish bond yields rose as high as 5.7 per cent – more than three per cent higher than Germany’s – later falling back to 5.53 per cent. Italian yields rose above 4.64 per cent.
The cost of insuring Eurozone debt also jumped yesterday on fears of contagion, with five-year credit default swaps (CDS) on Germany’s safe-haven debt rising 8.85 per cent. CDS on Italian debt rose 8.21 per cent and Spain’s jumped 4.15 per cent.
Jean-Claude Trichet, the president of the European Central Bank, tried to calm the market yesterday by hinting that the bank could expand its government bond purchasing programme.
Trichet told the European parliament he would not comment “at this stage… in light of the current situation”, but that the programme was “on-going”. He also refused to rule out the introduction of a joint Eurozone sovereign bond.
It was not enough to stop the euro sliding below the $1.30 mark against the dollar yesterday, as well as losing against the yen to hit its lowest level in more than two months.
The corporate debt market also reacted badly to the continued turmoil, as companies with high exposure to the Eurozone saw the cost of borrowing soar.
Those affected included Italian lottery owner Lottomatica, whose bond yields have jumped 12 basis points to 5.61 per cent since being issued last week.