Should Europe, despite this bleak outlook, succeed in stabilizing the situation for the time being, it still faces a formidable long-term challenge. It must fix the flawed design of the euro, which lacks the backing of a common fiscal policy among the 17 countries that use it.
Several proposals seek to remedy this. One idea favors introducing jointly issued “eurobonds” that would be backed by the full faith and credit of all eurozone governments. Presumably, this less risky investment will satisfy investors and take the pressure off of interest rates.
Another idea is being put forth by Germany and France. On Monday, French President Nicolas Sarkozy and German Chancellor Angela Merkel proposed closer fiscal cooperation among the 27 members of the European Union. The two leaders favor tighter budget rules and automatic penalties for those who break them. They also both reject a eurobond (for now).
Their plan, though, would require amending treaties – not easy to do, given that treaty changes require unanimous agreement.
At their summit, if European leaders are not able to fix the immediate crisis, there may not be a euro left to save in the long run. And without addressing the long-term problems and assuring Germany (and others) that fiscal reforms are on the way, Germany is unlikely to tone down its opposition to necessary monetary actions in the short-term.
Yes, a grand bargain is needed. However, only a smaller agreement along the lines of the German-French proposal seems possible for now.
While this promise of longer-term action might momentarily halt the downward spiral of the crisis, it is far from certain that these limited treaty changes will be sufficient to stabilize the currency over time.