Worries about public deficits in Greece and Italy and a regional election rout for Germany's ruling party cast fresh doubt on the eurozone's ability to tackle its debt crisis. Wall Street was closed for a holiday but it was unlikely that US investors would have been in any more of a positive mood given data ahead of the long weekend that showed US employment growth halted in August. That fuelled concerns that the world's biggest economy is slipping back into recession. It prompted oil to sell off on Monday, with benchmark Brent dropping below $110 a barrel.
The eurozone, meanwhile, faces a week packed with political and legal risks, beginning with a German constitutional court ruling on Wednesday on claims that Berlin is breaking German law and European treaties by contributing to bailouts for Greece, Ireland and Portugal. The court is not expected to rule against the contributions, but may add stipulations for dealing with future requests that will complicate the region's bailout plans.
"People are pricing in the risk of European meltdown, rather than the likely outcome," said Ian King, head of international equities at Legal & General. Banks in Europe were also under the cosh because of uncertainty about what a US lawsuit connected to the packaging of toxic mortgage debt might mean.
"Not a great start to the week. There is a lot going on for banks, especially in the light of a low-growth environment and the backdrop in the eurozone not improving," said Mike Lenhoff, chief strategist at Brewin Dolphin. The MSCI all country world equity index was down 2.0 percent on the day, helped along by Japan's Nikkei losing 1.9 percent in a catchup from Friday's US jobs data.
European stocks closed down 4.06 percent, with the banking sector shedding nearly 6 percent to a 29-month low. "There is massive tailrisk in the system right now," said Andrew Lim, banks equity analyst at Espirito Santo. The dollar rose half a percent to a one-month high against a basket of major currencies. The euro fell across the board, hitting a three-week low of $1.4111 and dipping 1 percent against the safe-haven Swiss franc. As many European financial institutions are saddled with losses on bond holdings, traders are also worried that their funding could face more strains, putting pressure on the single currency.