Saving the euro, saving Europe

Early this year, Europe’s policymakers portrayed their struggle to contain the sovereign debt crisis as a difficult, but not insurmountable, challenge. If intelligently handled, it could be confined to the small economies of Greece, Ireland and Portugal. As for the rest of the eurozone, a judicious mixture of fiscal austerity measures, economic governance reforms and light revisions to the European Union’s governing treaty would do the trick.

Now it is obvious that the battle for the euro is entering an altogether more dangerous phase. Italian and Spanish government bond yields rose again on Monday to their highest levels since the euro’s launch in 1999. So did the premiums that investors demand to buy Italian and Spanish debt rather than top-quality German bonds. “Decoupling”, or the notion that Italy and Spain have inoculated themselves against contagion from Europe’s outermost nations, is being ruthlessly exposed in debt markets as an illusion.

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As a result, there is nothing to be gained from maintaining the pretence that the survival of Europe’s monetary union in its present form is not under threat. Yet the implications of this crisis are even more profound. The euro stands as the crowning achievement of the post-1945 project of European political and economic integration. Remove this pillar and there is no saying what may happen to the rest of the architecture, as well as to the EU’s influence in the world.

It follows that, when they meet in Brussels on Thursday, the eurozone’s leaders must finally deliver on their repeated promises to do “whatever it takes” to save the euro. The time for vague, tough-sounding language is over. The time has arrived for concrete, measurable steps that will restore market confidence sapped by months of public disagreements among European politicians and central bankers.

The confusion, indecisiveness and lack of urgency with which eurozone policymakers have addressed the crisis must be replaced this week with a comprehensive strategy for defending the eurozone. Fixing the terms of a second rescue for Greece, though important, will not be enough.

True, it will help if Angela Merkel, Germany’s chancellor, and Jean-Claude Trichet, the European Central Bank president, end their increasingly pointless squabble over private sector involvement in a Greek debt relief package. But it will not transform Greece’s prospects for escaping from its debt trap, and it will not touch the heart of the matter – that Europe faces not a mere liquidity problem in a small, sun-kissed Mediterranean state, but a systemic crisis of its monetary union.

Eurozone finance ministers stated on July 11 that they were looking at ways to enhance the flexibility and scope of the European financial stability facility, the EU’s main rescue mechanism. It is essential that eurozone leaders put flesh on the plans this week. Proposals are in the air for the EFSF’s lending capacity to be tripled to €1,500bn, or made even larger still, in order to cope with possible emergencies in Italy and Spain. There are also suggestions that the EFSF should be given the power to buy government bonds in the secondary market.

Such ideas have drawbacks as well as positive features. For example, an exceptionally large increase in the EFSF’s lending capacity might put the top-notch credit ratings of Germany and France at risk. But the important point is that the eurozone’s leaders must dither no more. Any suggestion that they will put off consideration of a comprehensive solution until September could be fatal.

As long ago as February 2010, European leaders promised to take “determined and co-ordinated action, if necessary, to safeguard financial stability in the euro area as a whole”. The political hurdles to courageous action are obvious. But it is the leaders themselves who have repeatedly pointed out the dangers of inaction. Now they must make up their minds how they plan to save the euro.

Copyright The Financial Times Limited 2011.