World markets down as ECB disappoints

Equities on both sides of the Atlantic dropped on disappointment the European Central Bank won't be boosting its bond purchases to help ease the euro zone's fiscal crisis.

To make matters worse, the European Banking Authority sees the capital shortfall at the region's banks at 114.7 billion euros, according to Reuters, citing unnamed sources.

In afternoon trading in New York, the Dow Jones Industrial Average dropped 0.95 per cent, the Standard & Poor's 500 Index shed 1.31 per cent and the Nasdaq Composite Index lost 0.97 per cent. In Europe, the Stoxx 600 Index fell 1.5 per cent.

As expected, Europe's central bank slashed interest rates to a record 1.0 per cent. It also offered three-year financing to banks and eased rules on the collateral it requires from banks to tap its funds, according to Reuters.

But investors had hoped for much more at the start of the two-day EU summit seen as a make-or-break effort by the region's leaders to agree on measures to solve the euro zone's fiscal crisis.

ECB President Mario Draghi said he was "surprised" that comments he made last week were seen as a signal that the central bank would step up its bond purchases if EU leaders tightened rules on budgetary discipline.

"One step forward, two steps back," Alan Clarke, economist at Scotia Capital, told Reuters. "The ECB thought it was helping out by cutting interest rates and providing longer term liquidity measures. So far so good."

"But then to dash any hopes that the ECB might fire its bazooka [and engage in quantitative easing] has meant that the ECB's actions have backfired ... The euro zone leaders might as well not bother. Pack their bags, go home, enjoy the weekend and do their Christmas shopping."

A Reuters poll of economists found that while 33 out of 57 believe the euro zone will probably survive in its current form, 38 of those questioned expect this week's summit will fail to deliver a decisive solution to the debt crisis.

The euro was last 0.6 per cent weaker at US$1.3329 and 0.6 per cent lower at 103.61 yen.

Bonds suffered too in euro zone countries struggling most with their debt loads.

Italy's 10-year bond yields jumped 44 basis points to 6.43 per cent. The premium investors demand for holding the 10-year Italian securities instead of benchmark German bunds soared 53 basis points to 442 basis points; the Spanish-German yield spread widened 41 basis points to 373 basis points and the French-German gap grew 21 basis points to 132 basis points, according to Bloomberg News.

"What Draghi said today can be summed up in one sentence: We do more than necessary for the banks, but not for governments," Mohit Kumar, the head of European interest-rate strategy at Deutsche Bank in London, told Bloomberg.

"The ball is still in the politicians' court, increasing pressure on EU leaders to come up with longer-term solutions for the debt crisis. This won't bode well for periphery bonds," Kumar said.

Citigroup economist and former central banker Willem Buiter has warned that a full-blown breakup of the euro zone could spell a global depression with unemployment of 20 per cent and economic pandemonium. Buiter said a breakup would unlikely be planned, orderly or gradual.

Buiter, a former Bank of England policy maker, predicted in a research note as reported by AFP that a breakup would be "disruptive, destructive and without any winners".

Some good news from the US came in the form of the latest jobless claims numbers, which declined more than expected. Initial claims for state unemployment benefits fell 23,000 to a seasonally adjusted 381,000, the Labor Department said. Economists had expected a decline to 395,000.