The euro dropped to its lowest level against the US dollar in 17 months on Monday, as mounting concerns over France's public finances and a surprise snap election in Spain revived memories of the bloc's debt crisis.
The single currency touched $1.1161 during Asian trading, extending a four-week losing streak, before recovering slightly to around $1.12 at the European open. Analysts at ING warned in a note on Friday that the market could "easily add another 2% in risk premium to the euro" if the bond sell-off continues.
The pressure on French government debt has been particularly acute. The yield on France's 10-year bond climbed to 4.917% in early trading on Monday, close to last week's 24-year high, after closing Friday at around 4.856%. The spread between French and German 10-year yields widened to roughly 146 basis points, following the largest weekly increase in 17 years, according to data provider LSEG.
French Finance Minister Roland Lescure sought to reassure investors last week, insisting that France remained a solid borrower. He unveiled a 2027 budget aimed at cutting the deficit from 5.4% of GDP to 5%, ahead of next spring's presidential election. But with debt levels near 120% of GDP, scepticism persists.
Spain adds to political uncertainty
Spain compounded the unease on Monday when Prime Minister Pedro Sánchez called a snap general election for 29 November, after parliament rejected two of his minority government's housing decrees on Friday. The move follows months of political instability and a housing crisis that has sparked nationwide protests.
Spain's 10-year yield remained relatively stable between 4.07% and 4.09% on Monday morning, leaving its premium over German debt at around 65 basis points—less than half of France's current gap. Yet the political uncertainty is a reminder of the fragility of minority governments across the eurozone.
European stock markets were mixed at the open. The Euro Stoxx 50 fell 0.4%, while the broader Stoxx 600 rose 0.6%. France's CAC 40 dropped more than 1%, while Spain's IBEX 35, which slipped into the red after Sánchez's announcement, was 0.4% higher. Germany's DAX, Italy's FTSE MIB, the UK's FTSE 100 and the Netherlands' AEX traded between 0.1% and 0.3% higher.
Contagion fears test the ECB
Last week's sell-off also hit Italian, Belgian and Greek bonds, while German debt drew safe-haven demand. Italy's premium over Bunds neared 110 basis points on Thursday. Analysts at KBC noted on Monday that there had been "clear contagion towards the likes of Belgium or Italy" since then.
The turmoil leaves the European Central Bank in a bind. It has raised rates twice since June to tame inflation, which hit 3.8% in September, but traders have pared bets on more hikes. Its Transmission Protection Instrument, a bond-buying backstop created in 2022, has never been used.
Speaking at a think tank event on Thursday, Joachim Nagel, head of Germany's Bundesbank and a likely candidate for the ECB's next presidency, said the central bank's focus was price stability, not "certain spread levels". Asked about France, ECB President Christine Lagarde told French daily La Croix last week that "when your debt is close to 120% of GDP and not on course to be brought under control, it's a serious matter". However, she asserted that "it's not 2008 or 2011".
Investors will be watching closely to see whether the ECB steps in to calm markets, or whether it sticks to its inflation-fighting stance. The coming weeks, with the French budget debate and the Spanish election campaign, will be crucial for the euro's trajectory.
