ATHENS, Greece - Markets plunged Tuesday on fears that Europe's plan to save the euro was already unraveling after the shock decision by Greek Prime Minister to call a referendum on the country's latest rescue.
Stock markets plunged across Europe on Tuesday, with the Athens exchange losing almost 7 per cent, while the euro fell another 1.2 per cent, on worries the Greek government could lose the referendum vote with the potentially devastating consequence of a disorderly debt default and Greece's exit from the common currency.
George Papandreou stunned investors, as well as his own citizens and his partners in the eurozone, by announcing late Monday that a plebiscite will be held in what he called "a supreme act of democracy and of patriotism for the people to make their own decision." A confidence vote in the Socialist government will also take place at the end of this week.
The referendum — the country's first since 1974 — is expected to be held early next year. The renewed uncertainty it creates deflated any remnants of optimism over last week's grand European plan to contain the debt crisis. After weeks of complex negotiations, eurozone leaders agreed last Thursday that private holders of Greek bonds should take a 50 per cent loss on their holdings, reducing Greece's debt burden to 120 per cent of national income by 2020 from around 180 per cent at present.
"While it may be the democratic thing to do ... what happen if Greece votes 'no', which is possible given how unpopular the bailout plan appears to be amongst Greece's voters," said Michael Hewson, markets analyst at CMC Markets. "The resulting fallout could well result in a complete meltdown of the European banking system and throw Europe into turmoil."
News that Greece's Finance Minister Evangelos Venizelos went to a clinic after suffering stomach pains added to the renewed bout of fears in the markets.
Unsurprisingly, Greek shares led the retreat. The Athens Stock Exchange's benchmark General Index fell 6.8 per cent just after trading started Tuesday, with the bank index losing more than 13 per cent.
All other markets were sharply lower too. Germany's DAX was 3.6 per cent lower, while France's CAC-40 dropped 3.2 per cent. The euro fell to a daily low of 1.37 while borrowing rates jumped higher for Italy and Spain, considered the next weakest links in the crisis.
A recent opinion poll suggested that 60 per cent of Greeks were against the austerity measures that have been required by international creditors from the eurozone and the International Monetary Fund in return for crucial bailout loans. However, other polls show broad support for remaining in the eurozone.
Given that Greece is heading for its fourth year of recession next year, investors aren't hopeful that Papandreou will be able to pull off a victory. Success in the referendum, however, could shore up Europe's battle to contain its crippling debt crisis.
Even before Papandreou's pledge, the shine from last week's three-pronged plan to contain the crisis was wearing off. As well as increasing the private sector involvement in the Greek bailout, eurozone leaders agreed to boost the firepower of the bailout fund to €1 trillion ($1.37 trillion) and a recapitalization of the banking sector.
Jacques Cailloux, an analyst at Royal Bank of Scotland, noted that Papandreou's referendum pledge is likely to derail any hopes that the international community will contribute to the plan to boost Europe's bailout fund, the European Financial Stability Facility, at the upcoming summit of the Group of 20 leaders in Cannes, France.
"The added uncertainty surrounding a potential referendum in Greece will likely block any new potential financial support from countries outside the monetary union given the potential implications for the future of the Union," Cailloux said. "We thus view this as a major negative for Greece and the rest of the momentary union."
Greece's main opposition conservatives called for Papandreou's resignation, accusing him of incompetence and blackmail.
"Mr Papandreou is unscrupulous and dangerous," party spokesman Yiannis Michelakis said late Monday. "He has tossed Greece's participation in Europe into the air like a coin. ... Instead of seeking ways to extract us from our impasse, he is presenting the Greek people with the ultimate blackmail."
Respected conservative Kathimerini daily called Papandreou's announcement "a high-risk initiative" that further dents the country's international image and will accelerate the country's return to its old national currency, the drachma.
"The last thing Greece needs right now is additional uncertainty," the paper said. "It is certain that the country will be paralyzed and will be caught in an endless debate lasting weeks, during which obviously neither the state nor the government nor any other institution will function."
Pylas contributed from London