Investors Begin 2012 Cautiously as Euro Crisis Persists

Banks parked record sums at the European Central Bank while Germany held an uninspiring bond sale, suggesting investors are remaining cautious as new data suggested Wednesday the Eurozone crisis would likely linger well into 2012.

Banks placed 453 billion euros ($591 billion) on deposit at the ECB for 24 hours Tuesday, breaking a previous record set last week, the central bank said.

This followed the ECB providing banks last month a record 489 billion euros in low-cost three-year year loans in a bid to avert a possible credit crunch.

Orlando Green, a strategist at Credit Agricole, said banks were "more inclined" to hand over funds to the ultra-safe ECB than to lend out to the real economy as they await "clarity" on how the Eurozone debt crisis will play out.

Another analyst, Stefan Schilbe, from HSBC Trinkhaus, told Agence France Presse that the new record showed that "trust between banks has still not returned and the interbank market is still not functioning."

"At the moment, most of the money (lent by the ECB) is coming back and that is not going to change from one day to the next," added the economist.

Meanwhile, German 10-year bonds, considered the gold standard of Eurozone debt, enjoyed solid if not spectacular demand at an auction Wednesday.

Germany raised four billion euros at a slightly lower cost of 1.93 percent compared to the last such operation.

The previous sale of 10-year bonds in November sparked a market panic as investors shunned the auction, raising fears that the debt crisis had infected Germany, Europe's top economy.

After the November shock, Wednesday's auction was "very much back in line with more normal results," said David Schnautz, an economist at Germany's Commerzbank.

Annalisa Piazza from analyst group Newedge said: "Today's auction was not as bad as in late November, but it clearly shows that dealers are very cautious."

Traders appeared to welcome the result of the much-anticipated auction, with stock markets ticking slightly higher and debt yields on the secondary market dropping.

Attention now turns to France, which hopes to borrow between seven and eight billion euros at a long-term debt auction on Thursday.

European stock exchanges were down overall following a strong rally on Tuesday. The French and German markets were lower by just less than one percent, while Italy and Spain were off by more than one percent.

Market players also reacted to a key Eurozone survey of private sector activity.

The purchasing managers' index (PMI), a survey of 4,500 manufacturing and services firms, rose to 48.3 points in December, an improvement compared to November, but still indicating a slump in activity.

Any score below 50 indicates contraction.

Analysts noted that while output increased in Germany and stabilized in France, it slumped sharply in Italy and Spain, two nations under intense pressure over their high debts.

"Not surprisingly, the weakness is centered on Italy and Spain, which are both likely to already be in recession as domestic austerity measures exacerbate weak export sales," said Markit chief economist Chris Williamson.

"The uplift ... in December does little to dispel fears of the region sliding back into recession," added Williamson.

Given slowing demand in the euro area, inflation continued its retreat, further data showed, dropping back to 2.8 percent in December from a three-year high, sparking hopes of more interest rate cuts from the ECB.

Howard Archer from Global Insight said he expected the ECB would "trim interest rates ... from 1.00 percent to 0.75 percent in the first quarter."

However, amid the gloom, Germany continued to show resilience, with one of its main economic institutes, the DIW, forecasting Europe's powerhouse would dodge a recession in 2012 and register solid growth of 2.2 percent in 2013.

But such a sunny outlook depends heavily on European leaders' efforts to stem the debt crisis, DIW warned.

And the crisis will be front and center at talks between German Chancellor Angela Merkel and Italian Prime Minister Mario Monti when they meet on January 11, Berlin announced on Wednesday.

Merkel is also scheduled to meet French President Nicolas Sarkozy on Monday as Europe continues to strive for a convincing solution to the chaos roiling the 17-nation Eurozone.