The Dow Jones Industrial Average plunged about 500 points Thursday before closing down 391 points, or 3.5%, as dim economic news from monetary policymakers and the growing European debt crisis spooked investors. Global financial markets are reacting to a series of negative reports, including Treasury Secretary Timothy Geithner’s assertion that political instability and a debt crisis overseas are the greatest risks to the American economy, according to a Reuters report. Fears of a European debt crisis hurting U.S. growth prompted the Senate Banking Committee to invite a panel of European economists and banking experts to discuss how their debt issues will impact the fledgling U.S. economy. “The first thing we need to look at is the fact the European economy will stagnate over the next couple of years,” said Joachim Fels, global head of economics at Morgan Stanley (MS). “Italy and Spain will likely have a new recession next year, so U.S. exports to Europe will slow further.” Fels said a falling euro also means a stronger U.S. dollar, which also will slow export consumption. He told U.S. lawmakers it’s important for global economists to watch what is happening in Italy, which is facing a debt crisis of its own. “Italy is too big to fail,” Fels said. The failure of Italy would be a major financial crisis, he added. “Lehman would pale in comparison. Italy also is too big to rescue, and there is no one around in the euro area to bail Italy out.” On a more optimistic note, Fels said there are encouraging signs because the Italian government went through a significant spending overhaul in the 1990s, and the nation already has a balanced budget amendment in place. “I am quite confident Italy can get through this simply because they have done this before,” Fels said. He also warned lawmakers that European contagion needs to be stopped through a recapitalization of the banks. However, all of the economists who testified conceded the euro zone remains hog-tied by a united structure that connects the financial risks of nations, while failing to ensure a central system where liquidity can be tapped in times of crisis. “The bad news is: Where does the capital come from to recapitalize the banks?” Fels said. “In many of the countries these companies do not have access to capital markets anymore. And it’s very hard to get countries like Germany to recapitalize banks in other sovereigns.” Also testifying was J.D. Foster, a Norman B. Ture Senior Fellow in the Economics of Fiscal Policy at the Heritage Foundation. “At some point this house of cards will come tumbling down, taking the European system with it,” Foster said when describing what he considers the euro zone’s expanded welfare state mentality and low-growth financial structure. “This will be halted by recapitalizing the banks,” he said, adding it is unclear where the capital will come from and how much. Write to Kerri Panchuk