Eurozone leaders rise to challenge but details missing

Economists and non-euro EU leaders cheered Friday's eurozone summit deal as a surprise "breakthrough" in efforts to preserve a stable currency, yet crucial details still need to be filled in. With market expectations low ahead of the European Union summit, a deal that bolstered confidence in the euro was wrenched after all-night talks between eurozone leaders, bringing swift relief to crisis-hit Italy and Spain. The single currency leapt in value and bond yields tumbled as it appeared that politicians might finally have got ahead of the markets, though it remained to be seen for how long. EU president Herman Van Rompuy hailed a "real breakthrough" in efforts to prevent future crises as the 17 eurozone members agreed to let the future European Stability Mechanism (ESM) recapitalise ailing banks directly. That means ESM credits will not pass through national budgets, which in a vicious circle simply adds to the sovereign debt of struggling countries. Spain, which has been promised loans of up to 100 billion euros ($126 billion) for its ailing banks was the main beneficiary, but the move could also mean crucial relief for Ireland, where government backing for banks plundered the nation's accounts. Observers suggested that Dublin might now be able to access private credit this year, which could show EU partners and the world that one bailed-out eurozone country's problem was finally being sorted out. The ESM is also to be allowed to buy debt directly from eurozone states before they need a rescue, subject to conditions that were still a matter of debate when the summit ended. That would ease pressure on countries which must pay high rates to borrow money and the ESM backstop might not even be needed if private investors were reassured by its simple presence, one high-ranking EU official suggested. "The fact that you have it in reserve is protection in itself," said the official, who declined to be identified. The ESM must first be ratified however, and the new provisions will only take effect once a eurozone-wide banking supervisory body is set up around the European Central Bank (ECB), which will probably take at least six months. Among details to be worked out is how much sway the supervisor will have over smaller institutions, such as troubled German state-owned regional banks. Another is how the body will deal with big banks outside the eurozone, such as those in Europe's financial centre London. In the meantime, eurozone leaders also cobbled together 120 billion euros to boost growth and employment, and launched a pilot "project bond" programme. Economists welcomed the moves but identified a possible stumbling block, a finite amount of funds approved for the ESM that would cover only a fraction of the debt weighing on Italy and Spain. "The ESM's capacity of 400 billion euros (after the Spanish banking bail-out) is the equivalent of about 15 percent of the Italian and Spanish bond markets," noted Jonathan Loynes at Capital Economics. If markets want to challenge the latest eurozone plan this is a likely testing ground, analysts said, warning that the ECB would have to be prepared to act if the ESM was quickly depleted. Another question is the scope of scrutiny that would apply to the finances of countries that receive aid by selling government bonds to the ESM. German Chancellor Angela Merkel said Berlin had stuck to its principle of "giving, taking in return, setting conditions and maintaining control," and Finnish and Dutch officials also reportedly backed strict "conditionality." Italian Prime Minister Mario Monti, a potential beneficiary, made it clear he anticipated less pressure than that exerted by International Monetary Fund monitors on bailout recipients like Greece, Ireland and Portugal. The outlines of a much discussed eurozone banking union still have to be sketched in meanwhile, with a final decision on how to pursue the plan not expected before the end of the year. Commenting on the grand euro plan, British Prime Minister David Cameron noted with satisfaction that "for the first time in some time we've actually seen steps taken" to bolster non-eurozone Britain's closest trade partner. But as governments accept "the remorseless logic of having a single currency," Cameron added: "I hope there won't be a lot of quibbling." Berenberg Bank economist Christian Schulz applauded Merkel for turning "the discussion on a banking union into a decision to let the European Central Bank impose a set of rules." In agreeing to help Spanish banks, Merkel "buried the big demands that France, Italy and Spain had raised so loudly before: Eurobonds, Eurobills," and a common debt redemption fund, Schulz said. At Deutsche Bank, economist Gilles Moec noted little mention of a "roadmap" to greater economic union being prepared by top EU leaders. "The discussion on fiscal integration/debt mutualisation has not started in earnest," he concluded. And IHS Global Insight economist Howard Archer warned that "the ceding of more power - particularly over fiscal issues - away from the sovereign state to Brussels will be a hard sell to many sceptical electorates."