The euro hit another four-year low on Wednesday and stocks slumped after Germany's move to ban some naked shorting and German Chancellor Angela Merkel said the euro was in danger.
European markets opened down in response to Germany's move late on Tuesday to ban naked short selling in the stocks of its 10 most important financial institutions. Naked short selling is when an investor sells shares without borrowing them first.
Germany also banned naked short sales of euro-denominated government bonds and credit default swaps based on those bonds. This prompted a flight to quality in the bond markets, with Bund futures opening sharply higher, up 67 ticks from Tuesday's settlement close.
Investors are worried about what (the short-selling ban) says about regulation in the euro zone and markets generally going forwards, said Giles Watts, head of equities at City Index. It adds to uncertainty and the nervous feel of the market.
The euro fell over half a U.S. cent from the day's high at $1.2228 to $1.2145, before bouncing to $1.2190.
It had earlier dropped to a 4-year low of $1.2143, after Germany's ban left foreign exchange the only market where investors felt they could freely bet against European assets.
The currency's woes were amplified by comments from German Chancellor Angela Merkel that the euro was in danger.
Politicians have failed to appreciate that careless talk costs the performance of the single currency, said Jeremy Stretch, currency strategist at Rabobank.
Gary Jenkins, at Evolution Securities, said in a note that he would expect other countries to adopt Germany's proposals. The key question is whether these new measures will work. I think they will need to be accompanied by aggressive buying of government bonds by the ECB.
World stocks as measured by the MSCI All-Country index <.MIWD00000PUS> were down 1.35 percent whilst the more volatile emerging markets index <.MSCIEF> fell 2.21 percent.
The FTSEurofirst 300 <.FTEU3> index of top European shares was down 2.09 percent, with banks leading the losers.
Wall Street had also closed down after key senators reached a compromise in Washington on the balance of power between state and federal officials over bank oversight that could remove a long-standing obstacle to the passage of a landmark Wall Street reform bill in the U.S. Senate.
Earlier in Japan, the Nikkei was down by 0.5 percent, almost a three-month closing low as euro zone worries dogged exporters.
The MSCI index of Asia-Pacific shares excluding Japan <.MIAPJ0000PUS> fell over 2 percent, also a three-month low.
The U.S. dollar rose to a 14-month high against a basket of currencies <.DXY> at 87.458 as investors sought safer havens for their cash, including the yen and U.S. Treasuries.
In fixed income markets, Greek, Spanish and Portuguese credit default swaps all tightened, but data provider Markit said liquidity in the European sovereign CDS market was poor.
(Additional reporting by Simon Falush, Natsuko Waki, Jessica Mortimer; editing by Jason Webb)