At this week’s Franco-German summit, French president Nicolas Sarkozy and German chancellor Angela Merkel unveiled moves towards “real economic government” in Europe. They plan to enshrine fiscal discipline in the constitutions of the 17 eurozone states and align French and German corporate tax rates.
But there was no mention of increasing the size of the eurozone’s rescue fund, the European Financial Stability Facility (EFSF). Markets had also been hoping for movement towards a common European bond, or ‘Eurobond’, whereby the eurozone as a whole would issue debt. Bonds backed by the entire eurozone would allow the struggling periphery to borrow more cheaply. The summit occurred against a backdrop of rapidly-weakening growth in the eurozone, which will intensify worries that the southern states are unlikely to get to grips with their debt piles. Eurozone GDP expanded by just 0.2% in the second quarter, down from 0.8% in the first. Germany grew by just 0.1% and France stagnated.
What the commentators said
“Under the glare of jittery financial markets,” the summit was a chance to “soothe the debt crisis,” said Andrew Clark in The Times. “It fell short.” The two leaders produced nothing “radical” that could “stem a flight of confidence from the eurozone”.
Merkel is “under intense scrutiny at home”, said Nils Pratley in The Guardian. She has to “be seen to resist, otherwise German voters may rebel” against any further bailouts for the southern states. And Eurobonds would effectively be backed by Europe’s strongest state, Germany. It seems the crisis would have to get worse before Eurobonds get on the agenda. “That’s a dangerous message to send [as] markets will usually provide the necessary emergency to force the politicians’ hands.”
The European Central Bank is keeping market interest rates just about manageable for Spain and Italy by buying up their debt (and thus lowering yields), but it won’t want to do so much longer, as we pointed out last week. The EFSF “could easily be wiped out” if one of those countries needs a bailout, said Edward Meir of MF Global. So now “either all countries will be bailed out forever”, said Allister Heath in City AM, which means we need a much bigger EFSF or a Eurobond, or countries will be allowed to go bust. If the latter, we need a plan for orderly default “or else the consequences will be catastrophic”. So far we have seen only “denial and delay”.