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October 24, 2011 New York Times
New Unease for Europe’s Rescue Plan
By JACK EWING and LIZ ALDERMAN

FRANKFURT — As officials worked on Monday to iron out details of a plan to solve the European debt crisis, fears were growing that the result might be another example of European leaders doing less rather than more. And concerns are that it may not be enough.

After marathon talks in Brussels during the weekend, Chancellor Angela Merkel of Germany, President Nicolas Sarkozy of France and other leaders returned to their respective capitals while high-level aides remained to work on issues like debt relief for Greece and measures to strengthen European banks.

But one of the most concrete results of the weekend talks — a plan to compel banks to bolster their emergency reserves — disappointed expectations and suggested that Mrs. Merkel and Mr. Sarkozy were still hesitant to commit resources to a problem that threatens not only the survival of the euro but the world economy.

Banks would be required to raise their reserves by about 100 billion euros ($139 billion) for the euro area as a whole. That sum is at the low end of analysts’ estimates and is well below what many analysts consider adequate to remove doubts about the creditworthiness of European banks and to restore their access to international money markets.

“The key to re-establishing confidence is to reassure markets you have dealt with the weak links,” said Nicolas Véron, a senior fellow at Bruegel, a research organization in Brussels. “It seems the parameters they have agreed on do not accomplish that.”

Mr. Véron said the standards applied appeared to be so lenient that even the troubled French-Belgian bank Dexia would not be required to raise more capital, if it were not already the focus of its second government rescue in three years.

The tentative plan would give banks until June 30 to increase their reserves, which they could achieve by selling new shares, retaining profits or selling assets. But taxpayer support would be required for weaker banks.

In response to criticism that the time span was too long, some officials in Brussels were arguing to move the deadline to the end of the first quarter.

The recapitalization plan seems to be based on the costs of a default by Greece, but investors have already shifted their focus to Italy and the risk that Rome’s dysfunctional politics could endanger the country’s ability to service its debt.

Prime Minister Silvio Berlusconi did little to ease the discomfort as he struggled Monday to persuade his own allies to support pro-growth measures that he first promised in August. During the weekend, Mrs. Merkel and Mr. Sarkozy were openly disdainful of Mr. Berlusconi’s progress so far.

The amount being discussed for the recapitalization plan is not enough to reassure investors about the risks emanating from Italy, said Jon Peace, an analyst in London for Nomura. “We’re going to need potentially much more capital to provide that comfort.”

If there were a positive message to emerge from the meeting, it was the acknowledgment by European leaders that the crisis required a battery of measures, including bank recapitalization.

“The Europeans have now come to the conclusion that something needs to be done about the capital of the banks, and they should do it well, consistently and in a coordinated fashion without missing the target,” said an official who has participated in the talks, who spoke on the condition of anonymity because the discussions were continuing and confidential.

Talks with banking industry representatives in Brussels were also continuing about a steeper devaluation of Greek debt, perhaps as much as 60 percent, to a level the country has a chance of repaying. But banks, which had agreed earlier to a 21 percent “haircut,” seemed to be taking a hard line.

One of the main negotiators for the banking industry warned of dire consequences if banks were forced to accept losses against their will.

“Any approach that is not based on cooperative discussions and involves unilateral actions would be tantamount to default, would isolate the Greek economy from international capital markets for many years and would impose a harsh burden on the Greek people as well as European taxpayers,” said Charles H. Dallara, managing director of the Institute of International Finance, a banking group.

“It would also likely have severe contagion effects, which would cost the European and the world economy dearly in terms of employment and growth,” Mr. Dallara said in a statement.

The banks are insisting on assurances that Greece will eventually be able to repay its debts without the help of international bailouts. The International Monetary Fund said last week that would be a tall hurdle because Greece’s economy has deteriorated so much that it might need to rely on international assistance for as long as nine years.

In the weekend meetings in Brussels, the sense of frustration with the banks was palpable among some policy makers, said the official who participated in the talks. Given that investors might no longer be surprised if Greece did default, several member states said it should be allowed to, according to the official.

Nonetheless, with the painful memory of the demise of Lehman Brothers in 2008 still fresh, Europeans recognize the dangers of allowing a Greek default. A default would be dangerous “because we don’t have a clue of what it would be like, just like with Lehman,” the official said. “Little did we know what the consequences would be.”

The European leaders also seemed to be paying more attention to the need to do more than just preach austerity. There is general agreement that they need to find a way to restart economic growth, not just in Greece and other stricken countries but throughout the Continent.

“Without growth, Europe is at risk of struggling permanently with debt sustainability,” the economists Zsolt Darvas and Jean Pisani-Ferry wrote in a paper published Monday by Bruegel.

New data released on Monday underscored what the paper called a “growth emergency.” The Markit Eurozone purchasing managers’ index for industrial and services companies fell to its lowest point since July 2009, led by a steep decline in business sentiment in France. The survey data reinforce expectations that Europe is headed for a recession, which could depress tax receipts and make it even more difficult for governments to reduce their budget deficits.

Another issue that European leaders are trying to resolve is how to increase the firepower of the euro area’s bailout fund. One plan favored by Germany involves setting aside money from the fund to guarantee bonds from countries like Italy or Spain against a first cut of any losses that buyers might suffer.

Because neither Germany nor France wants to pump even more taxpayer money into the 440 billion euro fund, a second, more intense debate has sprung up over the idea of creating an accompanying fund, known as a special-purpose vehicle, that would theoretically attract money from emerging market nations or other countries to help Europe contain the crisis.

It was not immediately clear what incentive countries would have. Some officials have suggested that the I.M.F. could also contribute money to the fund. But that is proving to be a hard sell.

Liz Alderman reported from Paris. Stephen Castle contributed reporting from Brussels and Gaia Pianigiani from Rome.