European finance ministers prepared on Monday to discuss tighter regulation on hedge funds a week after launching a $1 trillion debt rescue plan, as the euro was hit by fears austerity measures would stifle recovery.
Before the euro zone ministers' talks, also expected to cover curbs on private equity, Germany said it was drawing up plans to boost the euro and avert future debt crises.
Among other proposals for reform, a European Central Bank policymaker proposed an independent body should be able to punish euro zone countries who went too far into the red.
The euro slumped to a four-year low on Monday on Asian markets after Friday's sell-off in the West, falling to its lowest since April 2006 on $1.2234. It later recovered to $1.235 although analysts remained bearish.
The euro is caught between a rock and a hard place at the moment, said Howard Archer, chief UK and European economist at IHS Global Insight, predicting a further drop toward $1.15 over coming weeks.
Bank shares in Greece, whose debt crisis prompted the rescue package aimed at stopping a spread to other vulnerable euro zone members and even destabilizing the global economy, tumbled four percent on Monday.
Prime Minister George Papandreou was quoted as saying French and German leaders backed a possible ban on so-called credit default swaps blamed for increasing borrowing costs for vulnerable countries like Greece.
He said he had written to U.S. President Barack Obama jointly with German Chancellor Angela Merkel, French President Nicolas Sarkozy and Eurogroup chairman Jean-Claude Juncker on whether the credit default swaps market should be closed.
In an interview with Germany's Handelsblatt newspaper, Papandreou criticized financial markets for overreacting to Greek's debt crisis and accused speculators of helping to provoke panic reactions.
Angela Merkel, Nicolas Sarkozy, Jean-Claude Juncker and I have suggested in a joint letter to Barack Obama whether the markets for credit default swaps ... should not be closed. The G20 countries want to discuss this, he said.
Politicians have long called for tighter control of speculators, who they believe exacerbated Greece's borrowing problems.
But Papandreou's call to consider closing the market for this insurance appeared to go further than anything demanded so far and would probably meet stiff opposition from companies and other bond buyers who depend on it to cover their risk.
European Central Bank council member Ewald Nowotny said that while the CDS market needed reform, there was no need to close it down.
CONTROLS ON HEDGE FUNDS
In action to back up the European rescue package, the European Central Bank bought 16.5 billion euros worth of bonds in the first week of its government debt buying program and will offset the purchases by taking one-week deposits from banks.
The bank's announcement was the first detailed glimpse into the euro zone's government bond purchase programme which began last week after the ECB abandoned a long-held resistance to it as part of the rescue package.
Germany's plans to support the euro and avoid any new debt crises were disclosed by a finance ministry spokesman, who declined to confirm reports Berlin wants a German-style debt brake across the single currency zone.
The Sueddeutsche Zeitung and other newspapers had reported Berlin was pushing the idea of tougher fiscal rules based on a German law to shield the euro zone from excessive debt.
Behind this is our belief that we cannot have a repeat of the Greece crisis. We think the Stability and Growth Pact (on fiscal standards) has been insufficient, spokesman Michael Offer said.
Firstly, we want to prevent budget crises, we want better supervision of economic policy and thirdly the introduction of a group to fight euro zone crises, said Offer, declining to give details on individual proposals.
European Central Bank Executive Board member Juergen Stark said euro zone states should be inspected by an independent body able to punish them if their budgets tip too far into the red.
We should think about an independent commission ... which continuously deals with the budget situation in the countries, he told Austrian radio.
The commission would be able to help supervise euro zone members' budgets and impose sanctions against profligate countries that would kick in automatically rather than at the discretion of other members.
(We need) measures for timely corrections when budget deficits are at risk of running out of control, Stark said.
Germany's Merkel said on Sunday this month's huge rescue package had only bought the euro zone time to tackle its basic problem -- a yawning gap between its strongest and weakest economies.
(Additional reporting by John O'Donnell; Madeline Chambers in Berlin; Writing by Charles Dick; Editing by Jon Boyle)