Spanish fears; German confidence

FRANKFURT, Germany - Europe's debt crisis flared on Monday as fears intensified that Spain would be next in line for a government bailout.

A recession is deepening in Spain, the fourth-largest economy that uses the euro currency, and a growing number of its regional governments are seeking aid to make ends meet. The interest rate on Spanish government bonds soared in a sign of waning market confidence in the country's ability to pay its debts.

The prospect of bailing out Spain worries Europe because the potential cost far exceeds emergency funds. Financial markets are also growing uneasy about Italy, another major European economy with large debts and a feeble economy.

Stocks fell sharply across Europe and around the world. Germany's DAX plunged 3.18 percent. Britain's FTSE dropped 2.1 percent and France's CAC 40 fell 2.89 percent. The Dow Jones industrial average closed down 0.8 percent. The euro slipped to $1.21 against the dollar.

The interest rate on Spain's 10-year bond - a sign of market confidence in a nation's debt management - hit 7.56 percent in the morning, its highest level since Spain joined the euro in 1999.

Concern over Spain increased Monday after the country's central bank said the economy shrank by 0.4 percent during the second quarter, from the previous three months. The government predicts that the economy won't return to growth until 2014 as new austerity measures hurt consumers and businesses.

On top of that, Spain is facing new costs as more regional governments ask federal authorities for assistance. The eastern region of Valencia revealed Friday that it would need a bailout from the central Madrid government. During the weekend, the southern region of Murcia said it may also need help.

Spain has already required an emergency loan package of up to $121 billion to bail out its banks. But that aid hasn't calmed markets because the government is ultimately liable to repay the money. Yet it is far more than Spain's struggle that has unnerved markets.

Greece is still struggling with a mountain of debt. International creditors will visit Greece on Tuesday to check on its attempts to reform its economy. There is concern that officials from the European Commission, the European Central Bank and the International Monetary Fund will find that Greece is not living up to the terms of its bailouts and could withhold future funds.

Italy has also been caught up in fears that it may have to ask for aid. Italy's economy is stagnating and markets are worried that it may soon be unable to maintain its debt burden of $2.32 trillion - the biggest in the eurozone after Greece. Interest rates on Italy's government bonds rose steeply Monday while its stock market dropped 2.76 percent.

Pascal Lamy, director of the World Trade Organization, said after a meeting with French President Francois Holland that the situation in Europe is "difficult, very difficult, very difficult, very difficult."

Ireland, Greece and Portugal have already taken bailout loans after they could no longer afford to borrow on bond markets. Yet they are tiny compared with Italy and Spain, the third- and fourth-largest economies in the eurozone.

Spain has already received a commitment of up to $121 billion from other eurozone countries to bail out its banks, which suffered heavy losses from bad real estate loans. Eurozone finance ministers signed off on the aid Friday and said $36.3 billion would be made available right away. But that incremental step cuts little ice with investors. If Spain's borrowing rates continue to rise, the government may be locked out of international markets and be forced to seek a rescue.

The eurozone's bailout fund, the European Stability Mechanism, has only $605 billion in lending power, with $121 billion potentially committed to Greece. Italy and Spain together have debt burdens of around $3 trillion. And the ESM hasn't yet been ratified by member states. Plus, eurozone governments have made it clear they won't put more money into the pot.

That again pushes the European Central Bank into the frontline against the crisis.

On Saturday, Spain's Foreign Minister José Manuel García Margallo pleaded for help, saying that only the ECB could halt the panic. But the ECB has shown little willingness to restart its program to buy the government bonds of financially troubled countries. The central bank has already bought more than $242 billion in bonds since May 2010, with little lasting effect on the crisis.