Debt worries overshadow positive news

Europe's sovereign debt crisis has created an environment in which investors are dwelling on negative developments even when data shows economic recovery, the Bank for International Settlements said.

"Against this background of heightened uncertainty, market participants focus on the deteriorating financial market conditions while often ignoring positive macro-economic news," the Basel, Switzerland-based BIS said in its quarterly report.

"The April jobs report, for example, saw United States non-farm payrolls increase by 100,000 more jobs than expected to 290,000, but the S&P 500 Index fell by 1.5 per cent on the day."

The debt crisis sent the euro to a four-year low against the dollar on June 7 and has wiped out more than US$4 trillion from global stock markets this year.

European leaders unveiled a €750 billion rescue mechanism last month to stem contagion from Greece, initially reversing a surge in the risk premium on Spanish and Portuguese bonds.

"The relief in markets turned out to be temporary, however, as investor confidence soon deteriorated on worries about the possible interactions between public debt and growth," the BIS said.

As investors' attention turned to growth prospects on the periphery of the euro region and Fitch Ratings stripped Spain of its AAA rating, citing a sluggish growth outlook, the extra yield investors demand to hold Spanish debt, rather than German equivalents, rose to a euro-era high of 216 basis points on June 8, easing to 188 basis points on June 11. The differential on Portuguese debt stood at 255 basis points on June 11.

"Investors questioned the robustness of global growth due to a number of factors in recent weeks, including the risk that the surge of public debt could derail the economic recovery and growing concerns that the financial system was more fragile than previously thought," said BIS economic adviser Stephen Cecchetti, head of the monetary and economic department.

Some European nations risk a "double-dip" economic slowdown if the region fails to manage its debt crisis, the World Bank said on June 9.

"If markets lost confidence in the credibility of efforts to put policy on a sustainable path, global growth could be significantly impaired and a double-dip recession could not be excluded," the Washington-based lender said in its report.

- BLOOMBERG