For both economic and political management of the European crisis, perceptions matter. Yet there is a degree of distance between the perception of what happened and what actually was agreed on at the recent summit of European leaders. On Friday afternoon, the Indian stock market went through a major rally on the back of a belief that the European problem was on the mend; oil prices, too, saw some movement that reflected the belief that commodity demand would now firm up. From that point of view, clearly, the summit was a short-term success. Whether or not Europe has in fact managed to help solve, or even mitigate, future problems with the euro zone is not as certain. The marathon session at European headquarters in Brussels managed agreement on several things: a euro 120-billion “growth pact”; direct loans from the European Stability Mechanism to troubled banks, and that such loans would not be automatically preferred to similar but privately held debt; and the establishment of a central regulatory authority for the euro zone’s banks, run by the European Central Bank. There was no mention of Greece, which continues to be the probable spark for a “run on Europe”, as that country’s new prime minister skipped the meeting due to health reasons.
These measures are unlikely to be enough in themselves. It isn’t just the fact that Greece was not mentioned. It was also that the numbers still don’t add up; the more Europe seems to commit to its troubled banking systems, the more financial markets demand to compensate for risk they see as constantly increasing. This is why firewalls earlier seen as more than adequate – euro 2 trillion in terms of bond purchases, and euro 1 trillion in the various stability funds – just don’t seem to cut it any more. Europe needs, clearly, to change the mood of those betting on its failure. The “growth fund” decided at Brussels will not be enough to do that, because it contains few new measures. In effect, decisions have been kicked down the road yet again, and markets will eventually reflect that.
The other misconception, perhaps, is that this is a defeat for Germany and for Chancellor Angela Merkel. While, admittedly, the presence of the new French president, Francois Hollande, meant that Italy’s and Spain’s bargaining position against Germany was strengthened and thus it was forced to agree to direct transfers to national banking sectors, it is nevertheless the case that a unified banking regulator – with its powers still to be determined – is a step in the direction of greater integration that Ms Merkel has been arguing for. By taking a rigid posture initially, Germany’s negotiators have succeeded in giving the appearance of giving away a lot. This may, paradoxically, hurt Ms Merkel domestically. German public opinion is understandably unconvinced about the wisdom of continued financial transfers to European partners who seem to expect it as a right. The future of the European project and world financial stability depend on their patience not running out, and on the rest of Europe making more of an effort to reform.