Bailouts and Austerity Measures Aren't Working: Is This the Euro's Last Stand?

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Illustration by Oliver Munday for TIME

Together apart Clockwise from top left: Draghi, Merkel, IMF head Christine Lagarde and French President Nicolas Sarkozy

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Much More Europe, Please
Marshaling the might of the entire euro zone — a $13 trillion economy — could provide an extinguisher powerful enough to put out the debt fire. That's why Italy and other weak economies need not platitudes about "more Europe" but measures more sweeping than anything seriously being negotiated within the euro zone right now.

One such measure could be the introduction of a eurobond — a bond jointly backed by all euro-zone governments. Under such a scheme, euro-zone countries could issue eurobonds in place of regular national bonds, with certain limitations. Since they'd have the entire financial heft of the zone behind them, Italy, Spain and other weakened countries would be able to borrow at lower interest rates, alleviating the crisis.

Many economists also believe that the euro zone should move closer to a fiscal union, with more centralized control and coordination over the power to tax and spend. The zone has stabbed in that direction. A new process began this year in which national governments must submit their budgets in advance for review at the European level. But that's just a baby step. Former ECB president Jean-Claude Trichet envisioned the creation of a euro-zone Ministry of Finance, with the authority to oversee national budgets and other economic policies. "A tighter fiscal union would help to calm market concerns," says John Chambers, chairman of the sovereign-ratings committee of Standard & Poor's. "If that doesn't happen, what's next? You could have a long slog."

Better central control would only solve part of the euro zone's problems, however. The root of the crisis is built into the nature of the union itself. Though they all use the same currency, the varied members of the euro zone have very different labor costs, levels of productivity, financial systems and other factors. Some countries are internationally competitive and, like Germany, amass big external surpluses; others, like Spain, are not and run record deficits. If Europe's debt-heavy economies are to escape the crisis, these gaps need to be minimized. That will require reform not only in deficit nations — deregulation that will make labor markets more flexible and spur competition — but also in surplus countries. Germany, for example, could reform its less efficient, domestically oriented service sectors to create better-paying jobs, boost consumption and buy more from its struggling neighbors.

Ah, Democracy
Austerity measures, improving competitiveness and creating a more unified euro zone all take hard work, tough decisions and painful sacrifices. It is an easy and popular media jab to assail Europe's leaders for not showing leadership at crucial moments, but they have already taken steps toward greater integration that were unthinkable before the debt crisis began — like the whole notion of bailing out euro-zone members. And there are structural reasons sweeping reforms can be so halting: all members have to approve any changes in euro-zone policy, meaning any one country, no matter how small, can upend any change at any time. Europe's national leaders, furthermore, derive no power or legitimacy from the European Union. They are beholden only to their voters back home, and sacrificing money and power to the zone aren't necessarily vote getters. That's because, to a great degree, Europeans — whether from the 17 countries of the euro zone or the 27 within the broader E.U. — don't seem convinced that the grand experiments they have embarked upon are worth it. Governments in Greece and Italy have already fallen attempting to implement unpopular austerity budgets, and Spain's ruling party just got voted out of office in part because of the tough reforms it inflicted on the sagging economy.

While the euro enjoys widespread support, spending more money to save it doesn't. Residents of rich countries like Germany resent seeing their hard-earned cash diverted to rescue Greeks, perceived as irresponsible, and Merkel and other politicians can ignore such sentiment only at their own peril. Recent polls show that more than half of Germans reject eurobonds, while 59% oppose further bailouts of euro-zone countries. (Is it a coincidence, then, that Merkel has steadfastly rejected the idea of eurobonds, labeling them "absolutely wrong"?) The French are only slightly more generous, with just under half against bailouts.

Euroskeptic political movements are capitalizing on ire over the debt crisis to gain more influence. In the Netherlands, the anti-euro Party for Freedom is gaining popularity; its chief, Geert Wilders, who has called the euro a "failed project," recently launched an investigation into the possibility of exiting the union. These movements are already influencing euro-zone policy. The success of the True Finns in national elections earlier this year turned tiny Finland into a big problem for the euro zone. The party's antibailout stance led the country to demand collateral as part of the second Greek rescue, which undercut the entire plan. Even more mainstream parties are growing weary of euro-zone commitments. Merkel had to overcome a revolt from within her own coalition against expanding the power of the EFSF in September.

Such political resistance has left Europe's leaders with few options. Some European politicians see the ECB as the only remaining institution with the financial muscle and credibility to save the euro. They're advocating that the ECB become the lender of last resort by purchasing Italian, Spanish and other beleaguered bonds on a massive scale to bring down borrowing costs and buy time for these countries to reform themselves. "In the absence of ECB intervention," HSBC chief economist Stephen King recently commented, "the euro simply will not be able to survive." Yet this idea too has met fierce opposition. No less a figure than Draghi has strongly resisted the idea. Though the ECB has intervened to buy bonds on a small scale, Draghi believes a massive bond-buying program would undermine the bank's credibility and violate its mandate.

In the end, the only way to save the euro is for a new euro zone to emerge, one in which its politicians and citizens are more willing to sacrifice their own interests for the greater community — to make the dream of a united Europe more than a dream. Sadly, as the debt crisis widens differences within Europe and exacerbates social and political tensions, that dream seems further away than ever. At some point, though, Europeans will have to make the fateful choice between national sovereignty and the euro's well-being. "It is time for a breakthrough to a new Europe," Merkel told her party's annual conference in November. "The task of our generation is to complete economic union and to build political union in Europe step by step." Now is the time for the next step, or all of Europe may fall over.
with reporting by Henning Hoff / Berlin, Leo Cendrowicz / Brussels and Bruce Crumley / Paris

This article originally appeared in the Dec. 5, 2011 issue of TIME Europe.

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