After 18 disappointing summits since the start of the debt crisis, Europe’s leaders appeared Friday to have finally come up with quick fixes and long-term plans that show they are serious about restoring confidence in their currency union.
Global markets breathed a huge sigh of relief. Debt-saddled Italy and Spain appeared victorious and Germany’s Angela Merkel faced potential criticism at home for conceding to pressure for an immediate deal.
The leaders of the 17 countries that use the euro agreed to:
—Pump money from two European bailout funds directly into troubled European banks later this year, rather than make loans to governments to bail out the banks. The move rescues banks without putting strapped countries deeper in debt.
—Use bailout money “in a flexible and efficient manner to stabilize” European government bond markets. That suggests that money will be used to buy government bonds, which should ease the pressure on countries like Italy and Spain.
—Let “virtuous” countries tap European rescue funds directly without submitting to stringent bailout programs.
—Tie their budgets, currency and governments ever tighter in a vast new economic union down the line.
European Council President Herman Van Rompuy called it a “breakthrough.” Financial markets appeared to agree — global stocks and the euro rallied hard, and the pressure on Spanish and Italian bonds eased markedly.
Most of the measures approved in the Brussels summit will take months to come into force. The €500 billion ($ 634 billion) firepower of the EU’s future permanent rescue fund, the European Stability Mechanism, or ESM, may not be enough — Italy alone has outstanding debt of €2.4 trillion.
And given how shaky the public finances of Spain and Italy are, and how jittery markets have been, the crisis could flare up again.
But some key points will kick in within 10 days: On July 9, eurozone countries will strike a deal governing Spain’s banking bailout and allow the temporary bailout fund to directly purchase Spanish government bonds.
In the markets, the summit decisions have been hailed as a victory for Spain and Italy, whose borrowing costs have risen to near unsustainable levels despite their efforts to cut spending and reform their economies.
In Germany, Chancellor Angela Merkel is likely to face a grilling from a skeptical German Parliament later. Heading into the summit, Merkel had stuck to her line that any financial help from Europe’s bailout fund must come with tough conditions, so a separate decision allowing countries that have reformed their economies easier access to bailouts, without such stringent conditions, was widely seen as a defeat by the German press.
Merkel insisted the funds would still only be released when it was clear countries were undertaking serious reforms.
“We remain completely within our approach so far: help, trade-off, conditionality and control, and so I think we have done something important, but we have remained true to our philosophy of no help without a trade-off,” Merkel told reporters in Brussels.
Van Rompuy dismissed talk that Merkel had lost in the negotiations.
“It was a tough negotiation,” Van Rompuy said. “It took hours yesterday. And you can’t summarize this in winners and losers.”
Leaders of the full 27-member European Union, which includes non-euro countries such as Britain and Poland, also agreed to a long-term framework toward tighter budgetary and political union, though those plans will require treaty changes and won’t be realized for years.
The scale of the moves were unexpected and provided investors a reason for optimism, even as analysts cast doubt on the plans’ feasibility and noted that some fundamental problems with the common currency remain.
“I think the elements we put together will reassure the markets,” said Jean-Claude Juncker, the Luxembourg prime minister who chairs the eurozone finance meetings.
Mario Draghi, the head of the European Central Bank, was similarly optimistic.
“I’m actually quite pleased with the outcome of the European Council,” said Draghi. “It showed the long-term commitment to the euro by all member states of the euro area. But also it reached tangible results in the shorter term.”
He cited in particular the waiver of the ESM’s preferred creditor status for Spain and the future possibility of using ESM for direct recapitalizing the banks, which is something the ECB had advocated for some time.
But he said strict conditionality was essential to the program’s credibility.
Stocks around the world surged Friday, with markets in countries on the front line of the crisis doing particularly well. Italy’s FTSE
MIB and Spain’s IBEX indexes rose 5.3 percent and 4.6 percent, respectively.
The euro was massively back in favor too, trading 2 percent higher at $ 1.2686.
Perhaps more importantly, the yield on Spain’s 10-year bond dropped by 0.47 percentage points to 6.43 percent. Italy’s was down by 0.25 percentage points to 5.83 percent. Both countries have seen their rates edge toward the 7 percent level which is seen as unsustainable over the long term.
The importance of recapitalizing banks directly from the bailout fund became evident this month when Spain was offered €100 billion ($ 125.6 billion) for its shaky banks.
Previously the bailout loan would have to be made to the Spanish government, which would lend it on to the banks. The prospect of having that debt on the government’s books spooked investors, who began demanding higher interest rates to reflect the risk of a Spanish default.
“These steps are the obvious ones to take to try to restore some confidence in the market in the short term,” said Gary Jenkins, managing director of Swordfish Research in London. “Alone, they do not solve the underlying problems but they might buy a bit of time, which is probably about the best they can do right now.”
Though welcoming the measures that were taken, analysts think more will have to be done.
“If the aim is to ease tensions on the Italian and Spanish bond market on a more sustainable basis, we probably will need to have more assurance on the fire power,” said analyst Carsten Brzeski of ING in a note.
Brzeski said more liquidity support from the ECB “looks inevitable” and may come as soon as Monday.
As well as trying to fix the euro, the EU leaders also agreed to devote €120 billion in stimulus to encourage growth and create jobs. Half of the total had already been earmarked and includes only €10 billion in actual new commitments. France had pushed for the growth package, arguing that austerity measures are stifling growth and making things worse.
They also agreed to give the ECB powers to oversee big European banks by the end of the year.
For the longer-term, the 27 leaders of the EU agreed on “four building blocks” of a tighter union — but postponed specifics until a study due in October. The building blocks, which include sharing debt in the form of jointly issued eurobonds, were laid out in a sweeping document presented by Van Rompuy and colleagues before the summit.
However, France’s President Francois Hollande said the general agreement on the tighter union did not — for now — include any commitment on eurobonds from Germany and other stronger economies that have firmly opposed sharing debt with more profligate countries such as Greece.
Hollande claimed to play the role of mediator instead of partnering with Germany as France traditionally does.
“No one can say I won or I lost,” he said. “What was at stake was Europe. That’s who won.”
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