European bank stocks were hammered overnight, as investors worried about the hefty losses they would suffer in the increasingly likely event of a Greek debt default, while rumours that some major banks would end up being partly nationalised swept through markets.

The carnage in financial stocks led to sharp losses on European markets, with London falling 1.6%, Paris 4%, Frankfurt 2.3%, Milan 3.9% and Lisbon 4.2%. However, a report in the Financial Times that cash-rich China may make “significant” purchases of Italian bonds and investments in strategic companies helped bolster the mood on Wall Street.

The big French banks — BNP Paribas, Société Générale and Crédit Agricole suffered the heaviest losses overnight — as investors worried about a potential downgrade from Moody’s Investors Service, and fretted about the banks’ hefty exposure to Greek debt.

French banks’ overall exposure to Greece is about €65 billion. According to French newspaper Le Monde, at the end of 2010 BNP Paribas held €5 billion of Greek bonds, Société Générale €2.7 billion, and Crédit Agricole €600 million.

The situation in Greece is looking increasingly dire, with the Greek government conceding that the debt-laden country would be running short of cash next month. “We have manoeuvring space in October,” deputy finance minister Filippos Sachinidis said in an interview on television channel Mega in response to questions as to how much longer the Greek government could continue to pay wages and pensions. “We are trying to make sure the state can continue to operate without problems,” he added.

His comments highlight how dependent Athens is on receiving its next payment of €8 billion from the €110 billion bailout fund that was set up by the European Union and the International Monetary Fund last year. But German officials have repeatedly warned that Greece will miss out on the payment unless it boosts its deficit-cutting efforts.

Investors are worried that Greece will eventually default, and that the three big French banks will face hefty losses on their holdings of Greek bonds. At the same time, these banks all have subsidiaries in Greece, and they could face a steep rise in bad debts as Greece’s economic situation continues to deteriorate.

Overnight, BNP Paribas plunged 12.4%, Société Générale fell 10.8%, while Crédit Agricole dropped 10.64%, to reach an historic low. Other French financial stocks, such as the bank Natixis and insurance company AXA, were also hard hit.

But French financial institutions weren’t the only ones under fire. Unicredit plunged 11% in Milan, while Deutsche Bank fell 7.3% and Commerzbank plunged 8.3% in Frankfurt.

With Europe’s banking crisis continuing to worsen, eurozone banks are becoming increasingly reluctant to lend to each other, because of worries about other banks’ exposure to the “peripheral” debt. Instead, banks prefer to park their money with the European Central Bank. On Friday, overnight deposits with the central bank climbed to €181.79 billion on Friday, the highest level this year. ECB boss Jean-Claude Trichet again sought to downplay the liquidity risks overnight, by emphasising that central banks stood ready to provide eurozone banks with an “unlimited quantity” of liquidity at “fixed rates”.

Even more worrying for investors is the prospect that some eurozone banks will suffer such heavy losses from a Greek debt default that they may have to be partly nationalised. According to Le Monde, French industry minister Eric Besson dismissed talk of “partial nationalisation” of banks as being “totally premature”. At the same time, French finance minister François Baroin tried to reassure investors that French banks were capable of coping with whatever happened in Greece. “There is no urgency for banks that are being massacred on the stock market as they all have the means to respond,” he said.

*This first appeared on Business Spectator.