European markets tumble as investors fear Italian default

The terms of a second bailout are contested. If the money doesn't come and Greece defaults, investors worry that an ugly cycle will start that could hit struggling states like Italy, Ireland, Portugal, and Spain. Greek debt is owned by banks throughout Europe, including in Italy, and cross-defaults far beyond Athens could be triggered if Greece isn't bailed out. In the wake of a default anywhere in Europe, investors are sure to demand an even higher premium over the German 10-year bond to lend to financially weaker states like Italy. Those higher interest rates, in turn, make it harder to pay back mounting debt, and increase the likelihood of eventual default.

July 8 is being described as “black Friday” in Rome, when markets plummeted after the German newspaper Die Welt quoted unnamed officials close to the European Central Bank saying that the current EU bailout fund was not adequate to handle an Italian collapse and would have to be doubled.

Yesterday’s meeting was called by EU chief Herman Van Rompuy and reportedly included Jean-Claude Trichet, head of the European Central Bank, Jose Manuel Barroso, European Commission chair, Jean-Claude Juncker, head of the Eurozone finance ministers, and Olli Rehn, who leads the EU economic and monetary section.

Mr. Trichet Sunday told an economic gathering in France that Europe was the “epicenter” of a debt crisis that concerned the markets of all the world's advanced economies.

“For Italy it is new data, internal political tensions, and uncertainty,” says Luigi Speranza, a London based economist with the French bank BNP Paribas. “For Spain, it is Italy and concern over the banking sector, and uncertainty. But it’s not really about Spain or Italy anymore. It’s about the entire eurozone. It’s quite hard to disentangle it anymore.”

Italy’s $2.5 trillion debt is twice that of Greece, Portugal, and Ireland combined. Italy has the third-largest bond market in the world after the US and Japan. Its sovereign debt is 25 percent of Eurozone debt, and its debt-to-GDP ratio is second only to Greece. Italian banks reportedly hold as much as 32 percent of its debt.

Some Italian banking officials have said the focus on Italy will diminish once a deal on Greece is secured.

"There has been a speculative attack on Italy in the past few days which is not justified by the fundamentals of either the country or the banks," Antonio Vigni, managing director of Banca Monte Paschi told Reuters news agency.

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