European fears spark world market sell-off

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World markets suffered a sell-off today amid fears that France and Holland will undermine a European treaty to tackle the debt crisis.

Nicolas Sarkozy was beaten in the first round of the French presidential elections by socialist rival Francois Hollande, who plans to renegotiate an agreement on limiting government spending to tackle the debt crisis.

In Holland, prime minister Mark Rutte tendered his government's resignation, paving the way for early elections after a minority party refused to back austerity plans.

The turmoil wiped £27.6 billion from the value of the FTSE 100 Index. It fell nearly 2%, or 106.6 points to 5665.6, while markets in Europe suffered sharper falls.

Chris Beauchamp, a market analyst at IG Index, said: "One potential change of government in the eurozone is bad enough, but with the Dutch government falling apart as well, investors have been well and truly spooked."

To add to the gloom, Spain has slipped back into recession, Germany's manufacturing sector shrank at its fastest rate for nearly three years, and China's manufacturing sector continued to decline, albeit at a slower pace than previously.

Meanwhile, a survey of the eurozone's manufacturing and services sectors showed further contraction in April, fuelling fears about the eurozone's economy.

Banks were among the biggest fallers in London, with Barclays down 4%, and taxpayer-backed Royal Bank of Scotland and Lloyds down 4% and 2% respectively.

Shavaz Dhalla, a trader at Spreadex, said: "Dismay could be a term used to describe global markets this afternoon as a series of poor economic data from the eurozone, exacerbated by news indicating that the Dutch government was close to collapse, brought global markets to their knees.

"This, coupled with the uncertainty regarding the potential for a new but less eurozone-friendly French president, caused investors to flee in the face of uncertainty."

The prospect that Mr Sarkozy will fail to win re-election spooked markets because he has been a key ally of German chancellor Angela Merkel, who has spearheaded the drive to hammer out an agreement to limit government spending.

All but two of the 27 countries in the European Union signed up to the "fiscal compact", with the UK among those to abstain.

Enforcing austerity on the eurozone at a time when it is struggling to grow is likely to prove difficult, with Spain and Italy already having to let deficit-reduction targets slip.

David Miller, a partner at Cheviot Asset Management, said: "If Sarkozy had won comfortably yesterday, it would have been business as usual, with France and Germany trying to hold the eurozone together.

"However, the new prospect of a new president and new approach to dealing with the eurozone crisis has made investors and European markets nervous.

"We'll see muddled markets until the final result is declared."

Meanwhile, in Holland, Mr Rutte failed to get support from a right-wing party for budget cuts that would bring the deficit under the EU limit of 3% of gross domestic product.

Spain's central bank says the country is now in a technical recession as the economy contracted 0.4% in the first quarter of the year following a 0.3% decline in the previous quarter. The government has said the economy is shrinking and forecasts it will contract 1.7% this year.

And a report on Chinese manufacturing suggested further declines in April, hitting mining stocks in the FTSE 100 Index.