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Europe's economic outlook darkens; Markets reel as plans to fix debt crisis falter

Europe's plan to fix its debt crisis by imposing budget cuts frayed Monday. Heavy selling rocked financial markets, uncertainty gripped two governments, and the economic outlook darkened across the continent.

The German stock market incurred its worst day in six weeks. In the United States, the Dow Jones industrial average lost more than 100 points.

Across Europe, the debt crisis appeared at its most perilous point since December, when most of the continent united behind a plan to place strict caps on government spending, a strategy known as austerity, and the European Central Bank made the first of two infusions of cheap credit into the banking system. New governments in Spain and Italy got to work on improving growth.

Now the first pillar of Europe's approach -- austerity -- is faltering.

"Europe has not solved its problems, and the austerity programs are making things worse, not better," said Peter Morici, an economist at the University of Maryland.

Cutting government spending can weaken an economy and result in less tax revenue flowing back to the government. So the goal of cutting the deficit can backfire and make it worsen.

And even if a country is reducing its deficit, it still has one, which means the debt is increasing. The European Union said Monday that governments did cut their budget deficits in 2011 but that government debt nonetheless rose as a percentage of economic output.

Meanwhile, developments across Europe cast doubt on public support for its austerity prescription: government layoffs and wage reductions, spending cuts on government programs and higher taxes.

The government of the Netherlands, which has loudly criticized its European neighbors for inflaming the crisis by losing control of their budgets, submitted its resignation to Queen Beatrix after failing to agree on its own budget cuts.

France headed for a presidential runoff election May 6 after the Socialist candidate, Francois Hollande, took the most votes Sunday in the first round of voting.

Hollande edged President Nicolas Sarkozy in the voting. Sarkozy and German Chancellor Angela Merkel have been such forces in setting debt-fighting strategy that they have come to be known as "Merkozy."

Hollande gained 29 percent of the vote, and Sarkozy had 27 percent. The Socialist has said he would push to add measures to stimulate economic growth to the fiscal pact.

If Hollande is elected, it would mean "the end of the common road for France and Germany," with negative repercussions for the markets and the euro, said Stefan Scharfetter of Germany's Baader Bank.

Financial markets generally detest uncertainty, and they did not respond well to it Monday.

Germany's DAX index dropped by 3.4 percent, the equivalent of a 450-point decline in the Dow. The benchmark stock index dropped by 3 percent in Paris, 3 percent in Madrid and 2 percent in London.

Stocks also fell broadly in the United States, where a resurgence of fear about the fate of Europe has ended the steady ascent that the market enjoyed during the first three months of the year. The Dow fell back below 13,000 and was down 0.8 percent for the day.