EU leaders agreed on the emergency measure of using the region’s rescue funds to stabilize bond markets and bring down Italy’s and Spain’s spiralling borrowing costs, without forcing countries to comply with extra austerity measures. The leaders resolved to form a single supervisory body for Eurozone banks by the year end. The European Stability Mechanism would lend directly to recapitalize banks without impacting a country’s budget deficit; it would also disregard seniority while lending.

In a poll by Reuters, 53 out of 55 economists expect the BoE to extend its asset purchase programme by another £50bn when it meets next week. This is a sharp turnaround from the June poll when only two out of fifty economists expected such an extension.

Germany disapproved the idea of mutualising the Eurozone debt as Chancellor Angela Merkel suppressed the idea of having common Eurozone bonds, ahead of the EU summit scheduled for Thursday. Germany, however, seemed ready to discuss more flexible utilisation of Eurozone’s rescue funds to aid troubled banks and improve investor sentiment.

The European Union summit scheduled for Thursday and Friday could discuss granting Brussels enhanced powers to act as the finance ministry for member nations that breech debt and deficit targets, the Financial Times reported today. Besides a greater fiscal union, the summit’s agenda could include a deeper banking union and political union. Separately, German Chancellor Angela Merkel continues to be a staunch opponent of joint Euro bonds. She said the Eurozone needs “improved oversight and structural measure”, fending off mounting pressure from European allies and investors.

Leaders of Europe’s four largest economies agreed on a €130bn package to revive growth in the Eurozone, last Friday. However, Germany resisted pressures to implement common Eurozone bonds as well as a more flexible utilisation of Europe’s existing bailout resources. The four also agreed to create a so called “Tobin Tax” on financial transactions, even though it is yet to be approved by nine EU members.

Two independent auditors estimate Spanish banks may need €51-62bn in fresh capital to survive a severe economic downturn and ensuing losses on bad loans. Eurozone finance ministers discussed ways to disburse up to €100bn to Spanish banks. The economy minister said a formal request for a bailout would be made soon. Separately, Madrid was able to sell €2.2bn in five-year bonds at 6.07%, a yield seen as unaffordable in the long term.

The HSBC Flash Purchasing managers’ index, which measures China’s industrial activity, fell for the eighth straight month to a seven-month low of 48.1 in June, affirming that China’s factory activity contracted further. Export orders and prices shrank to the lowest levels since early 2009. In contrast with President Hu Jintao’s comments that the economy is rebounding, the new orders sub-index and new export orders sub-index witnessed sharp declines in June in addition to a nose-dive in both input and output prices.

Senior Eurozone officials stated Greece, which received a €130bn bailout package in February, would renegotiate bailout terms with international lenders. There have been delays in implementing the bailout conditions due to key changes in the economic situation and uncertainty about the elections. US, the IMF’s largest member, welcomed new discussions on the Greek bailout programme, while Germany expressed scepticism over loosening of Greece’s reform commitments.

Chinese commerce minister, Chen Deming, echoing weekend comments by President Hu Jintao, said the Chinese economy is showing signs of rebound in June. The government has undertaken measures such as accelerated spending and easier lending norms to boost growth. Other central bank officials have predicted the economy could bottom-out in Q2 2012. Mr. Deming also said kick-starting domestic consumption could help offset the impact of diminishing global demand.

Victory for the pro-bailout New Democracy party in the second Greek elections eased concerns that the country would be forced to leave the 17-member Eurozone. Despite not gaining a clear majority, the New Democracy party would try to form a coalition government after defeating the radical leftist Syriza party.

Bank of England (BoE) would pump in approximately £100bn into the UK banking system to combat the Eurozone credit crisis impact on the UK economy. As per the plan, the BoE would launch a scheme to provide cheaper long-term funding to banks that would, in turn, give an impetus to business and consumer borrowing. The government scheme would provide £80bn in new loans, while a separate scheme would enhance six-month bank liquidity through monthly tranches of £5bn.

Moody’s slashed its ratings on Spanish government debt by three notches to Baa-3 from A-3, citing continued weakness in the economy and the government’s ‘very limited’ access to international debt markets. This has brought Spain’s credit rating to the brink of junk status.

Spain’s benchmark borrowing costs soared to a record high, raising doubt on the bailout for Spanish banks. The yield on 10-year Spanish government debt touched 6.86%, the highest since 1997. Additionally, bond yields in Italy have risen to the highest level in almost six months. The Italian Treasury is seeking to sell a total of €4.5bn of Treasury bonds at an auction tomorrow.

José Manuel Barroso, President of the European Commission, urged the 27 EU member states to consider forming a banking union that could offer an EU-wide deposit guarantee scheme and integrated supervision. He urged the need for deeper integration to avoid a repeat of the European debt crisis.

Eurozone finance ministers agreed to lend €100 bn (US$125bn) in aid to Spanish banks, allaying fears of a banking crisis in the region’s fourth-largest economy. Spain is the fourth country, after Greece, Ireland, and Portugal, to seek a bailout since the start of the European debt crisis.

Echoing his ECB counterpart, Federal Reserve Chairman Ben Bernanke urged politicians to address the issues hindering economic growth. He stressed that the US must avoid the ‘fiscal cliff’, focus on cutting deficit, and implement tax reforms to stimulate economic growth. Mr Bernanke maintained that the Fed stood ready to support the fragile US economy, which could to be swayed by Europe’s financial woes. However, he gave no firm commitment on further QE.

Federal Reserve Vice-Chair Janet Yellen presented a case for more monetary easing citing significant downside risks to the economic outlook from the escalating crisis in the Eurozone as well as faltering jobs and housing markets. Yellen said asset purchases could be outright balance sheet expansion or switching shorter-term securities for longer-term ones.

Spain said its troubled banking sector is pushing its borrowing cost to unsustainable levels and called for help from the Eurozone partners. The call came ahead of the G7 emergency meeting to discuss the rescue plan for the Eurozone. Separately, Moody’s cut its rating on several German and Austrian banks citing their lower loss bearing capacity and increased risks of shocks from the Eurozone’s debt crisis.

The official purchasing managers’ index contracted to 50.4 in May from 52.2 in April, significantly below the consensus forecast of 52.0. This indicates slower pace of expansion in manufacturing activity in China. Though the government dismissed plans for a 2008-style mega-stimulus package, the larger than expected slowdown raised hopes of Premier Wen Jiabao implementing additional pro-expansion policies to stabilise growth.