As Greece inches closer to the brink of financial collapse, fear that the debt crisis will spread is engulfing Europe.
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Yiorgos Karahalis/Reuters

A protest of austerity measures in Athens on Tuesday. Transportation workers have left train stations deserted because of strikes.
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Thanassis Stavrakis/Associated Press

Unemployed schoolteachers chanted slogans at an anti-government demonstration in Athens on Tuesday.
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Increasingly, investors wonder if Portugal, Spain and even Ireland may not be able to borrow the billions of dollars they need to finance their government spending.

“It’s like Lehman Brothers and Bear Stearns,” said Philip Lane, a professor of international economics at Trinity College in Ireland, referring to the Wall Street failures that propelled the financial crisis of 2008. “It is not so much the fundamentals as it is the unwillingness of the market to fund you.”

A major ratings agency cut Greece’s debt to junk level on Tuesday, warning that bondholders could face losses of up to 50 percent of their holdings in a restructuring. The agency also downgraded Portugal’s debt by two notches.

Leading stock indexes across Europe plunged by 2.5 to 6 percent, and the euro fell to a recent low, for a 13 percent decline against the dollar since December. The Dow Jones industrial average slumped 213.04 points, to 10,991.99, a fall of 1.9 percent, and markets continued dropping into Wednesday, with Japan’s Nikkei index falling more than 2 percent.

The downgrades, by Standard & Poor’s, pushed up the interest rates that Portugal must pay on its 10-year bonds to a high, and Spain’s costs rose, too. Investors are already demanding nearly 10 percent in returns on Greek’s 10-year bonds. The cost of insuring all three countries’ debt against a default are also at record levels — a clear sign that investors are shunning them.

“The situation is deteriorating rapidly, and it’s not clear who’s in a position to stop the Greeks from going into a default situation,” said Edward Yardeni, president of Yardeni Research. “That creates a spillover effect.”

The problem is that it is not just Greece, which expects to receive international aid, but Portugal, Spain and other countries that must issue more debt soon.

“Spain has to issue new debt plus roll over existing debt,” said Jonathan Tepper of Variant Perception, a research group based in London and known for its bearish views on Spain. “So they are dependent on the kindness of strangers.”

Countries the world over sell bonds, which help cover the costs of things like social services and government workers’ pay. In developed countries, this debt is considered relatively safe because governments can raise taxes or fees to pay their debts. But government revenue has dropped sharply during the recession, and levying higher taxes risks further slowing the economy.

With European budget deficits worsening, investors are now worried that — like American homeowners who borrowed too much in the last decade — some countries may have a hard time paying off their debts.

As economic growth picks up, the financial pressure should ease. Officials from the Greek finance ministry and staff from the International Monetary Fund are racing to conclude aid for Greece by May 19, a crucial date for its refinancing efforts.

To some extent, Europe’s paralysis in dealing with Greece is driving the unease and highlighting political divisions within Europe. Each step toward additional support for Greece has appeared to be too little too late.

The latest proposal, a 45 billion euro package by Europe and the I.M.F., has done little to calm the markets, and Germany’s statement this week that it must first see more deficit reduction from Greece before fulfilling its pledge has only increased concerns that Europe is not united behind Greece.

Kenneth Rogoff, a former economist for the I.M.F. who has studied sovereign defaults, calls the latest assistance package puzzling. “They put their wad on the table, but they could have gone further,” he said of the international plan. “I never thought Europe could take the lead on this.”

As the European Union and the I.M.F. debate the politics of Greece’s laying off civil servants or persuading its doctors to pay income tax, it is becoming apparent that the international community may need to come up with a much larger sum to backstop not just Greece, but also Portugal and Spain.

“The number would be huge,” said Piero Ghezzi, an economist at Barclays Capital. “Ninety billion euros for Greece, 40 billion for Portugal and 350 billion for Spain — now we are talking real money.”

Mr. Rogoff says that the I.M.F. could commit as much as $200 billion to aid Greece, Portugal and Spain, but acknowledges that sum alone would not be enough.

In fact, analysts at Goldman Sachs suggest that Greece will need 150 billion euros over a three-year period.
What a growing number of investors suggest is really needed is a “shock and awe” figure, enough to convince the markets that peripheral European economies will not be left to fail.

On Tuesday, a vice president of the European Central Bank said that the euro zone was facing its biggest challenge since the adoption of the Maastricht Treaty in 1997. Austerity measures in Greece and Portugal are already causing unrest there. Transportation workers in both countries protested on Tuesday, leaving train stations deserted because of strikes.