Mountain to climb

"When we announce a summit then share prices on stock exchanges rise. So now we're organizing as many summit meetings as possible."

This quip, attempted by a close associate of EU Council President Herman Van Rompuy, may have been an attempt to cover up the overall anxiety currently pervading Brussels. Suggestions for solving Europe's debt crisis have already been made at several summits already held, and which are to continue this Sunday. The actual decision on how to proceed, it has been said, should be made at another summit due to begin October 26 and to last three days.

This was the timetable agreed to on Thursday by German Chancellor Angela Merkel, her French counterpart Nicolas Sarkozy and Van Rompuy. Now, the baton passes to the heads of the European Union's many governments to reach agreement.

Just a technicality?

At a parliamentary group meeting of her Christian Democrats and their partners, Merkel went to great lengths Friday to insist that the endless stream of summits has had nothing to do with a dispute between France and Germany on the way forward to solving the debt crisis. She insisted that dealings were just "technically difficult to develop." Merkel reiterated that thoroughness should take precedence over speed in combating the crisis, according to participants at the parliamentary meeting.

In reported comments from their Thursday meeting, it had appeared as though Sarkozy had not moved a millimeter in his position on how to solve the crisis - which Merkel denied later that evening. Previously, the French and German leaders had spoken on the phone and held a join video conference with US President Barack Obama, who is thought to have appealed to the consciences of the European leaders, urging them to quickly agree a common line.

Merkel and Sarkozy are due to meet in Brussels on the eve of the next summit due for Sunday. Then, it's hoped, a Franco-German compromise on a way to solve the debt crisis will be found. Ahead of that meeting, the finance ministers of the 17 countries that share the euro currency met on Friday, whilst the 27 finance ministers of the EU are to gather on Saturday.

Approval a foregone conclusion?

The EU summit next Wednesday is important not least because the finance committee of the German parliament, the Bundestag, must first give its blessing to all decisions agreed to by the chancellor at Sunday's summit. What would ordinarily be a simple technicality in the meshwork of weekend meetings has become very difficult, especially because the Bundestag must have enough time to check the decisions made at the summit and all documents must first be translated into German.

This isn't the only reason that all eyes are on Germany and France at the moment, with Luxembourg Prime Minister Jean-Claude Juncker telling German broadcaster ZDF that the Franco-German engine of the EU was stuttering: "Without Germany and France and their strong ties not much gets done in Europe. But the 27 cannot get by solely by relying on the close relations between Germany and France."

Three points of discussion

At the core of the disagreement between France and Germany to be addressed at the summit marathon are three essential questions. The most important pertains to leverage.

The European bailout fund, the EFSF, should be expanded to a point so as to allow Spain and Italy to continue issuing bonds at reasonable interest rates to investors. Just how these levers function is contested not only by France and Germany, but also by economists. The Germans favor a kind of insurance for the buyers of government bonds to cover losses of 20-30 percent. This is based on a proposal by the German insurance group Allianz. It is technically very complicated and has been criticized by the German opposition for potentially exposing German taxpayers to any liability. Whether enough private investors can be found for government bonds with EFSF insurance has obviously not been tested.

The French side, meanwhile, has argued for an integration of the European Central Bank into the process so it could make the EFSF funds available via large-scale loans. The ECB, however, has rejected this. According to Jens Weidmann, president of the Deutsche Bundesbank, the country's central bank, this kind of lever would amount to state funding through the "bank note printing press". This measure has actually already been ruled out by several European treaties.

The French bank BNP, meanwhile, is supposedly working on a third lever model, according to the Financial Times. Back in 2008, the US Federal Reserve practiced leverage by expanding money supply in response to the banking crisis. This was suggested as a possible way forward by US Treasury Secretary Timothy Geithner at a meeting with his European counterparts in Poland in September.

Debt cut for Greece?

Greece, which is on the brink of default, must have some of its debt remitted. In July, European leaders agreed with private creditors, banks and the ECB a voluntary debt cut of 21 percent. It appears, in the face of the crisis, this was not enough. Germany wants Greece's debt slashed even further, perhaps even up to 60 percent. France and the private creditors are stuck at cuts of 30 percent. France rejects such steep cuts because its banks hold up to 60 billion euros in bad bonds. The losses for the French state would be great.

The ECB also views a debt cut skeptically. It too would have to write off its Greek government bonds threatening losses of as much as 50 billion euros.

Addressing the banking crisis

In anticipation of a debt cut for Greece, many banks holding Greek government bonds or the bonds of other governments in crisis have found it tough procuring short-term money. The banks have a great distrust of one another and so the ECB has stepped in with fresh capital for the time being. If a debt cut does come, many banks, particularly those in Greece, Spain, Italy and France, will need more equity to avoid going bankrupt. Whether such lenders are able to get this capital, or even whether states - which have problems of their own - should buy stakes in the banks is a matter of intense debate.

France wants the EFSF to support the banks so its own bottom line won't be hit. Germany, meanwhile, can foresee a forced recapitalization. The German banks, led by Deutsche Bank, are resisting mandatory participation of the states. A forced increase in the equity ratio could mean that the banks may not be able to give as much credit to businesses, endangering the economy which until now has performed relatively well in Germany.

Changing EU treaties

EU heads of government will be discussing medium- and long-term measures for the three abovementioned trouble spots. Chancellor Merkel intends to suggest that countries receiving money from the EFSF bailout fund should waive a part of their sovereignty. A permanent troika of the EU, ECB and International Monetary Fund should monitor the financial management of heavily indebted countries. Stability mechanisms and penalties for violations should be made harsher.

The eurozone is expected to further coordinate its economic and fiscal policy, with the commission entrusted with the task being made sufficiently competent. Such measures would have to be reflected in amended EU treaties, which can only be ratified by the 27 member states. This process can take up to two years to accomplish. Germany wants to shorten this period to one year and argues that changes to EU law should not be "taboo".

There is also disagreement over who should preside over all this upheaval. Merkel and Sarkozy want to install EU Council President Herman Van Rompuy as the new head of the 17-member Eurogroup. The current chief of the eurozone finance ministers, Jean-Claud Juncker, disagrees with this. He insists there is no need for a "euro boss". EU Commission President Jose Manuel Barroso, meanwhile, has stressed that the EU already has an economic government, the EU Commission in Brussels.

Author: Bernd Riegert / dfm
Editor: Andreas Illmer