Europe’s leaders urgently need to convince the market that they can prevent financial distress in Greece and elsewhere from bringing down the banking system and infecting bigger countries such as Italy and France.
Instead, as they meet today for their second summit in four days, they’re engaged in a high-stakes game of chicken.
On one side, French President Nicolas Sarkozy has proposed raising the money needed -- at least 3 trillion euros ($4.2 trillion), by Bloomberg View’s calculations -- from the European Central Bank, the only institution that can credibly pledge such a large sum.
On the other side, central bank officials, with the backing of German Chancellor Angela Merkel, are holding out. They don’t want to pony up for a full rescue without first fixing key flaws in the euro area, such as the lack of a unified fiscal authority with the power to impose budget discipline on member countries. Such reforms require treaty revisions that could take years to push through, suggesting the ECB won’t be providing the firepower Europe needs to end its crisis anytime soon.
As a result, barring some miracle, Europe’s leaders will test markets’ patience with yet another inadequate bailout -- if they reach a deal at all. Early reports suggest private creditors might be pushed to write down Greece’s debt by about 50 percent, not quite the full reckoning required to draw a line under sovereign defaults. Plans to enhance the European Financial Stability Facility might boost its lending or guarantee capacity to 1 trillion euros or so, far short of what is needed to recapitalize banks and protect solvent governments from market attacks.
Keeping Armageddon Alive
Central bank officials may be hoping that by keeping the threat of financial Armageddon alive, they can coerce the region’s people and governments into moving toward the deeper union that the euro’s creators envisioned. If so, they’re making an extremely risky bet. Market turmoil is pushing up borrowing costs for banks and companies at a time when economic indicators are pointing toward a recession, making the financial positions of otherwise solvent governments increasingly precarious.
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