Investors sold off government bonds from Spain, Portugal and Italy on Tuesday amid worries that Europe's debt crisis has not been contained by Ireland's bailout but is putting pressure on other fiscally weak countries.
The yields on Spain's 10-year bonds jumped as high as 5.7 percent by midmorning, making for a euro-era record difference of 305 basis points against the benchmark Germany 10-year bond, which had a yield of 2.7 percent.
The spread on Italy's 10-year bond reached 210 points, also the highest since the launch of the euro, before easing back somewhat. Portugal, whose yields soared last week, saw its spread edge higher as well.
Spain and Portugal have continually denied they will need a bailout like Ireland and Greece but investors have become increasingly skeptical that the series of bailouts will stop with Ireland.
While rescuing Portugal would be about as costly as Greece or Ireland, who each represent less than 2 percent of the eurozone economy, a Spanish bailout would test the limits of Europe's finances. It accounts for over a tenth of the eurozone economy, and Italy is even larger.
"It is clear that the market is aware of the tight-rope that 'peripheral' governments are walking," said Neil Mellor, currency strategist at Bank of New York Mellon.
Portugal's central bank warned in a report Tuesday that the financial system is facing "serious challenges," as foreign concerns about public, private and corporate debt have made it harder for Portuguese banks to raise money on international markets.
Continuing to request financing from the European Central Bank is "unsustainable," the report warned, saying banks should adopt a commercial policy of encouraging saving to ensure their liquidity.
Traders worry that instability in Portugal could easily cross the border into Spain.
Spanish Prime Minister Jose Luis Rodriguez Zapatero has vigorously defended the nation's economy and finances. He insisted over the weekend that his administration will forge ahead with austerity measures and force troubled banks and regional governments to reveal information about savings and restructuring efforts so as to restore confidence.
Zapatero claims the structural reforms under way, which include loosening hiring and firing restrictions in the job market, freezing pensions and liberalizing the energy sector, will eventually boost the country's competitiveness, among the worst in the eurozone.
He maintains Spain's plans to reduce its deficit are being fulfilled scrupulously and added that the country's total debt was still 20 percentage points below the European average despite the crisis. Spain's debt at the end of 2009 was euro560 billion ($740 billion), roughly 60 percent of its GDP.
Still, the country is struggling to emerge from a near two-year recession and has a eurozone high unemployment rate of near 20 percent.
Portugal's government has also repeatedly insisted that its austerity program of tax hikes and pay and welfare cuts next year will be enough to restore its fiscal health. However, investors fear a likely economic downturn because of the belt-tightening will make it harder for the Portuguese to meet their debt obligations.
Jean-Claude Juncker, the head of the Eurogroup, which represents the 16 euro nations, was quoted as saying Tuesday that other countries in the bloc were not leaning on Portugal to accept a rescue.
"There is no pressure. It's up to the Portuguese government to decide whether it wants help," Juncker told Portuguese reporters during a visit to Tripoli, Libya, according to the national news agency Lusa.
Madrid's main stock index, which has had more than a week of negative trading and saw a sharp drop on Monday, was down another 0.8 percent on Tuesday, while Portugal's main index was 0.5 percent lower.
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