Markets in turmoil amid fears of Italy defaulting

EUROPEAN markets were bracing themselves for further turmoil today as economists warned that "Italy is bound to default" on its sovereign debt.

London's benchmark FTSE 100 index last night suffered its biggest fall this year - down 2.3 per cent, hitting levels not seen since November - after investors were spooked by Europe's debt crisis and worries the US will slip back into recession. The German Dax index also fell by 2.3 per cent, while the French CAC-40 was almost 2 per cent lower.

Weak economic data from the US sparked more fears about the world's biggest economy, while Spanish and Italian government borrowing costs escalated as financial markets fretted they would struggle to keep up with debt repayments. Italian bond yields touched a record high, prompting prime minister Silvio Berlusconi to tell the Italian parliament that economic growth is his government's key aim.

Traders were readying themselves for a rocky ride after the Centre for Economic & Business Research (CEBR) today warned its mathematical models showed Italy will default on its debts, although Spain "may just get away without" capitulating. Douglas McWilliams, chief executive of the CEBR, said: "The failure of the European leaders to sort out their economic problems before going away for August has left Italy and Spain in the lurch.

"Spanish prime minister Zapatero has cancelled his summer holiday; Italy prime minister Berlusconi - whose everyday life resembles a Club 18-30 holiday - has not actually given up his own summer plan and made an unusual address to the Italian parliament."

The group maintained its view that the eurozone will not be able to continue in the long run due to the ongoing debt crisis.

David Jones, chief market strategist at IG Index, said: "It is the now-familiar double-whammy of sovereign debt and a stumbling recovery that has smashed sentiment once again.

"Italian and Spanish yields have jumped in recent days, and for too many traders this looks like a replay of last year's Greece and Ireland troubles."

Figures showed that US services sector growth was weaker than expected in July, while factory orders fell. This followed Tuesday's news that consumer spending showed its biggest fall for nearly two years.

Investors are concerned the pledge to find $2.4 trillion (1.5 billion) of savings over the next decade will affect US growth prospects and could lead to the country losing its cherished AAA credit rating. Weaker Chinese services data also added to worries about the strength of the global economic recovery.

Brent crude oil prices dropped 1.6 per cent to $113, while shares in energy and mining companies tanked amid the possibility that demand may fall.

Gold – seen as a safe haven investment – hit record highs of $1,674 an ounce, before settling at around $1,670. But the UK and the pound have also emerged as a so-called safe haven – territory normally reserved for the dollar.