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Monday, May 10, 2010 2:11 PM UTC

Euphoria greets EU’s $1 trillion rescue for euro

World markets respond to European Union's plan to prevent spreading government debt crisis

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Topics: European Union, European Financial Crisis, U.S. Economy, Business,

World markets surged Monday as investors were galvanized by the European Union’s surprisingly large $1 trillion plan to defend the embattled 16-country euro currency and prevent a spreading government debt crisis from choking off the global economic recovery.

While stocks bounced back from one of the worst weeks since the height of the financial crisis in 2008, the euro also rebounded — to above $1.30 at one stage before settling around $1.2925. Last week it had slid to a 14-month low of $1.2569.

“Default risk has been quashed and the market reaction has been euphoric,” said Jane Foley, research director at Forex.com.

In Britain, investors put aside any concerns about last week’s inconclusive election, from which a government has yet to be formed, and sent the FTSE 100 index of leading shares up 240.98 points, or 4.7 percent, higher at 5,364.

In Germany, uncertainty related to defeat in a regional election for Chancellor Angela Merkel were similarly downplayed — the DAX index spiked 267.85 points, or 4.7 percent, higher at 5,982.94.

France’s CAC-40 was the best-performing major index in Europe, surging 280.94 points, or 8.3 percent, to 3,673.53.

Some of the biggest gains were recorded on the stock exchanges of the countries that have been in the markets’ line of fire over the last few weeks and months — Athens’ main index was up 9 percent at 1,777.59 while Lisbon’s PSI 20 spiked 9.5 percent to 7,255.79.

Crucially, borrowing costs for the debt-laden countries plummeted amid reports that the European Central Bank was buying up bonds — for example, the difference between yields on Greek 10-year bonds and their benchmark German equivalents was at 5.03 percentage points, down around 5 percentage points.

The euphoria was replicated on Wall Street — the Dow Jones industrial average was up 438.87 points, or 4.2 percent, at 10,819.30 soon after the open while the broader Standard & Poor’s 500 index spiked 51.76 points, or 4.7 percent, at 1,162.64.

Monday’s dramatic market moves were spurred by news that the European Commission will make euro60 billion ($75 billion) available for loans and guarantees to indebted European countries.

Beyond that, the eurozone promised backing for another euro440 billion ($570 billion), should it be necessary, and the International Monetary Fund would contribute an additional sum of at least half of the EU’s total contribution, or euro250 billion.

In addition, the European Central Bank announced what many analysts called its “nuclear option” — buying public and private bonds to lower borrowing costs and increase liquidity.

Meanwhile, the U.S. Federal Reserve restarted its dollar swap operations, in which it offers billions of dollars overseas to boost banks’ cash positions in return for foreign currency. Central banks around the world were also involved.

“This is shock and awe, Part II and in 3-D, with a much bigger budget and a more impressive array of special effects,” said Marco Annunziata, chief economist at UniCredit Group in London.

“This truly is overwhelming force, and should be more than sufficient to stabilize markets in the near term, prevent panic and contain the risk of contagion,” he said.

Market sentiment turned sour last week as a euro110 billion ($142 billion) loan package for Greece failed to calm investors, who feared Europe’s response was too little and too late to keep confidence in the euro from deteriorating and potentially collapsing.

Markets realized that the draconion austerity measures demanded by Greece’s bailout are likely to keep the country in recession, if not depression, for years and complicate paying down heavy debt loads. The images of violent protests in Athens and the prospect that such mayhem could spread to other European countries — such as Portugal and Spain, where borrowing costs were rising ominously — and derail the global recovery caused investors to fear the worst.

On Thursday, a combination of fear and technical glitches contributed to a temporary 1,000-point drop in the Dow, a reminder of the fragility of international markets.

Fears of an imminent collapse in the euro have been answered but the currency is not out of the woods yet, analysts say.

“The audacious stabilization fund unveiled has provided a short in the arm for the euro,” said Simon Derrick, senior currency strategist at Bank of New York Mellon.

“As awesome a ‘shock and awe’ display as yesterday’s announcement from the EU was, the true cost and just how it plans to pay the bill remains to be seen,” he added.

Earlier, Asian investors applauded the EU’s moves, even though the debt crisis is a particularly European concern at the moment. Japan’s Nikkei 225 stock average ended 1.6 percent higher at 10,530.71 while Hong Kong’s Hang Seng index jumped 2.5 percent to 20,426.64.

Benchmark crude for June delivery was up $2.20 to $77.31 a barrel in electronic trading on the New York Mercantile Exchange. The June contract fell $2 to settle at $75.11 on Friday.

——

Associated Press writers Carlo Piovano in London and Alex Kennedy in Singapore contributed to this report.

More Pan Pylas.

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