LONDON, March 18 European shares were expected to fall sharply on Monday, with Cyprus' plan to tax depositors rattling investors who are concerned that the move, if passed, could set a precedent for future euro zone bailouts.
Breaking with previous EU practice that depositors' savings are sacrosanct, Cyprus and international lenders agreed at the weekend that savers in the island's outsized banking system would take a hit in return for the offer of 10 billion euros ($13 billion) in aid.
"Markets fear that this could lead to capital flight from peripheral banks and countries," Philippe Gijsels, head of research at BNP Paribas Fortis Global Markets in Brussels, forecasting that European equity markets could drop 2 to 5 percent in coming days.
"We should not forget that the Cypriot economy is only 0.2 percent of the overall European economy. So if contagion can be prevented, this is probably only a pause in the 'risk-on' and not the start of a major sell-off. Markets for risk were clearly overbought and this can be seen as a way to shake out the weak hand."
At 0733 GMT, futures for Euro STOXX 50, Germany's DAX and France's CAC were 1.6 to 2.8 percent. Financial spreadbetters earlier predicted London's FTSE 100 to open as much as 2.1 percent.
European banking shares, some of the strongest performers in recent months , are expected to bear the brunt of the broader market sell-off.
Analysts said that the key to whether the sell off proves long-lasting will be the extent to which policymakers manage to convince investors that the Cyprus bailout terms are a one-off.
"Despite reassurances from Brussels that Cyprus is a special case and that indiscriminate levies won't be a common policy tool, depositors across Europe are doubting their sincerity and are fearing that a new precedent has been set for other debt-laden euro zone countries," Jonathan Sudaria, dealer at Capital Spreads, said in a note.
Mining shares are likely to track a 1.3 to 2.1 percent slide in key base metals prices on concerns related to Cyprus, which was working on a proposal to soften the blow on the bank deposit levy on smaller savers ahead of a parliament vote on Monday.
"All in all, the decision has been viewed as a poor one as it not only increases the risk of a run on the banks in countries such as Greece and Spain, it also threatens the renewed confidence that we've seen in the region since the start of the year," Craig Erlam, analyst at Alpari, said.
"If the Cypriot government votes in favour of the levy on Monday, we could see stocks and the euro extend their losses, as risk aversion drives money back towards the safe haven dollar and bonds."
On Friday, the FTSEurofirst 300 index of top European shares closed down 0.4 percent at 1,203.01 points, retreating from a fresh 4-1/2-year high of 1,209.05 points set at the start of the session.
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