Financial markets went into sharp reverse yesterday as doubts grew over a last-minute US debt deal and weak manufacturing data stoked fears that all is not well with the world’s biggest economy.
Dealers said the turnaround was brutal in European trade after solid gains in Asia on President Barack Obama’s announcement that he had reached an accord with his Republican rivals on raising the debt ceiling and spending cuts.
The deal, agreed after weeks of high-stakes wrangling to save the United States from an unprecedented and dangerous default initially sent the Asian, then Europe and the US markets all higher in a strong relief rally.
As the day went on, however, doubts about the debt deal grew, with the banking sector very badly hit, especially in Italy and Spain as nervous investors worried that the two will be snared by the eurozone debt crisis.
News that US manufacturing activity was flat in July then undercut any hope that the economy was getting through just a soft spot, compounding the damage.
In London, the benchmark FTSE 100 index of top shares closed down 0.70 per cent at 5,774.43 points but in Frankfurt, the DAX fell 2.86 per cent to 6,953.98 points and in Paris the CAC 40 dropped 2.27 per cent to 3,588.05 points.
Milan lost 3.87 per cent, with some of Italy’s banks losing up to nine percent while Madrid shed 3.24 per cent and other European markets slumped.
“Investors looked at the US debt plan and became more and more sceptical that it can work,” said Dov Adjedj at Aurel in Paris.
The deal “included no tax hikes, as the Democrats had hoped for, and the spending cuts are minimal,” Mr Adjedj added.
Mr Obama on Sunday said the accord would raise the country’s $14.3 trillion debt ceiling by about $2.4 trillion in two steps, while calling for roughly the same amount in spending cuts over 10 years.
In the US Congress, leaders of the Democratic-held Senate and the Republican-led House of Representatives said they would present the framework to their rank-and-file on Monday ahead of final votes to approve the deal.
In New York, the blue-chip Dow Jones Industrial Average slumped 1.12 per cent at around 1630 GMT while the tech-heavy Nasdaq Composite was down 1.35 per cent.
In Asian trade earlier Monday, Tokyo jumped 1.34 per cent, Hong Kong put on 0.99 per cent and Sydney advanced 1.65 per cent while Shanghai gained just 0.19 per cent on poor Chinese manufacturing data.
On the foreign exchange market, the euro suffered badly, coming off early highs above $1.44 to fall to $1.4204 from $1.4395 in New York late Friday.
The dollar rose to ¥76.80 from ¥76.73 as investors favoured the US unit which still enjoys a lower risk profile – although that could be in jeopardy if the debt accord fails.
Dealers noted too that even with the debt deal in place, the United States is likely to see its sovereign rating lowered, which will pressure the dollar.
The economic backdrop is far from promising, they said.
Paul Dales at Capital Economics said the US manufacturing report “was a shocker,” with a serious slowdown in prospect.
“The (report) is not flagging up another recession (at least not yet) but it suggests that the easing in (economic) growth in the first half of the year is looking more and more like a sustained slowdown than a short-lived soft patch.”
Meanwhile gold, the traditional safe haven in times of trouble, continued to hold near record levels, finishing at $1,623, down from the close Friday of $1,628.50.