EU leaders will sign off on a permanent rescue fund for the euro zone at Monday's summit, even as they struggle to reconcile fiscal austerity, economic growth and Greece's unresolved debt problems.
The summit comes as Greece and its creditors wrangled in recent days to restructure its debt, a bumpy process that has alternately fed hopes of an agreement and fears of a messy default.
"After so many disappointments and debate on the Greek issue, the market is expecting very little to be agreed to in the short term," said Michael Woolfolk, a senior currency strategist at BNY Mellon in New York.
A Greek debt restructuring deal with private creditors is needed before agreement can be reached on a second bailout package, which Athens needs to meet a 14.5 billion euro repayment on its debt due in mid-March. Otherwise Greece faces a messy default that could reverberate through global markets.
The lack of a breakthrough in Greek debt talks saw yield spreads between German Bunds and euro zone peripheral debt widen, adding to downward pressure on the euro. An auction of Italian government bonds went off smoothly, but did little to calm concerns.
The Dow Jones Industrial Average dropped 110.35 points, or 0.87 percent, to 12,550.11. The Standard & Poor's 500 Index dropped 13.69 points, or 1.04 percent, to 1,302.64. The Nasdaq Composite Index dropped 28.49 points, or 1.01 percent, to 2,788.06.
European shares were also off, with the pan-European FTSEurofirst 300 index of top shares down 1.11 percent.
Banking stocks were among those leading losses, with French lenders particularly weaker. President Nicolas Sarkozy said a French financial transaction tax would be set at 0.1 percent.
Currencies considered safe havens firmed, with the euro slumping 0.93 percent against the US dollar to $1.3101. The dollar fell to as low as 76.31 yen, its lowest since unilateral Japanese intervention in foreign exchange markets in late October.
Meanwhile, Portugal's slide toward becoming the next Greece, and needing a second bailout, gathered pace as banks raised the cost of insuring government bonds against default and insisted the money be paid up front instead of over years.
On Monday it cost a record 3.9 million euros to insure 10 million euros of Portuguese debt.
US and European data did little to boost investor confidence.
Consumer spending in the United States was flat in December as households took advantage of the largest rise in income in nine months to boost their savings, setting the tone for a slowdown in demand early in 2012.
And while business confidence in the euro zone strengthened in January for the first time since early 2011, analysts said the data masked a growing gap in performance between Germany and the rest of Europe.
"We expect the recession in the euro zone will end in the spring," said Christoph Weil, an economist at Commerzbank. "But we can also see that the divergence in the euro zone is increasing and that is of great concern."
The MSCI world equity index was down 1.16 percent to 313.99, having weakened in Asian trade where investors were returning from the long Lunar New Year holidays. The benchmark index hit its highest level since August last week after the U.S. Federal Reserve pledged to keep interest rates near zero for the next three years.
Oil prices also retreated on Monday, dipping below $111 a barrel after an expected Iranian vote to suspend crude exports to Europe was postponed and markets continued to wait for a deal on Greek debt.
Brent crude futures were slightly off at $111.17 a barrel and US crude was down 0.68 percent to $98.88 a barrel. Both contracts gained more than 1 percent last week.
Gold ticked lower, having earlier hit a seven-week high. The precious metal was still supported by safe-haven buying after the slower-than-expected US GDP data on Friday.
Gold hit a high of $1,739 an ounce at one point, its strongest since Dec. 8, but then edged down to $1,726.44 an ounce. Bullion, which struck a record high $1,920 last September on concerns about a worsening euro zone debt crisis, is on track for a gain of more than 10 percent this month.
