Europe's government debt market was hit again on Wednesday, with Italy's borrowing costs above the 7 percent level widely viewed as unsustainable despite the European Central Bank buying up its bonds.
Equity markets fell and Wall Street looked set to open lower. The euro itself hit a one-month low against both the dollar and the Japanese yen before recovering a bit on the ECB's intervention.
Italian 10-year bond yields were at 7.18 percent, the level generally seen as requiring an outside bailout.
Contagion has spread. Yields on core euro zone bonds issued by France, the Netherlands and Austria also rose as investors fretted about the ability of euro zone policymakers to end the crisis.
Euro-dollar cross currency swaps widened, a move that in the past has past has indicated that European banks are having difficulty raising dollar funding.
Traders said the ECB had bought Italian and Spanish debt, but an initial boost was wearing out. The central banks was heavily in on Italy and Spain, 2-10 years, one bond trader said.
Contagion from the weakest debt-ridden euro zone economies such as Greece into bigger ones such as Italy, Spain and even France is now the dominant fear for global investors.
It is no pandemic yet, but yields -- how much it costs governments to borrow on financial markets -- have been rising sharply almost across the board, with France now firmly in the firing line, suggesting the steps taken by policymakers and governments to contain the crisis have been nowhere near enough.
Investors question the ability of debt-ridden euro zone countries such as Italy to do what it takes to reverse their economic decline and the long-term willingness of the European Central Bank to act forcefully enough to end the crisis.
Up to now, it has bought bonds intermittently and only in sufficient size to stem sharp sell-offs.
The pressure is on the ECB. There are more calls on the ECB to step in more broadly to be a lender of last resort. It is not yet prepared to do these things. That's why the market will remain fragile, said Rainer Guntermann, a strategist at Commerzbank.
Attention is turning to France, one of the euro zone's core economies, but with a large debt to GDP ratio. Yields on French 10-year bonds rose to 3.73 percent, having traded around 2.5 percent only two months ago.
If France succumbed, the entire euro project would be in peril.
French yields are way below crisis levels but still around 2 percentage points higher than German equivalents, a euro era record.
We now have to ask ourselves: what if a state goes bankrupt? What if a state gets out of the euro zone? said Bertrand Lamielle, head of asset management at Paris-based B*Capital.
World shares were generally lower with the MSCI all-country world index .MIWD00000PUS off a half a percent.
In Europe, the FTSEurofirst 300 .FTEU3 was down a quarter of a percent.
This market is not about macro or micro data, it's all about sovereign bond yields. The apostles of the value style have been saying for 18 months: 'stocks are cheap'. They look cheap indeed, but the focus is elsewhere, Lamielle said.
The macroeconomic picture, framed by the debt crisis, is not robust. Data on Tuesday showed the economy of the 17-nation euro zone barely grew in the third quarter. ECB President Mario Draghi has predicted the currency bloc will be in a mild recession by the end of the year.
The euro slipped to a fresh one-month low against the dollar and the yen.
The common currency fell as far as $1.3437 , its lowest level in more than a month, after the French bond yield spread over benchmark German bunds hit its euro-era high.
It was later flat on the day at $1.348.
While it is clear that the data in the U.S. is improving, European concerns far outweigh (that) at present, said David Scutt, a trader at Arab Bank Australia in Sydney.
Markets are clearly expecting a circuit breaker to alleviate pressure on periphery bond yields. If no announcement is forthcoming in the days ahead, one suspects that the situation could unravel fairly quickly.