Editorial; A lingering crisis Thursday, 20 October 2011 05:28

Alarm bells are ringing in the euro zone. The debt crisis is pushing the euro zone beyond a simple monetary union. There is a sense of despair as violent protests rocked Greece, Germany lowered its growth forecast and Spain was hit by a credit downgrade.  After spreading to frail countries Ireland and Portugal, the debt crisis threatened banks holding debt from countries in difficulty. Available monies began to dry up, and as the fear of contagion spread, banks became reluctant to led to each other, jeopardising the entire credit system. European leaders meet on Sunday for a high-profile summit that they hope will produce a clear plan to tackle the sovereign debt crisis that began in Greece and now threatens to drag down Italy, Spain and even France.

Over the past 18 months, euro zone leaders have repeatedly met to try to find solutions to the debt problem. Plans to tackle the euro zone debt crisis remain stalled with Paris and Berlin at odds over how to increase the firepower of the region’s bailout fund. France has argued the most effective way of leveraging the European Financial Stability Facility (EFSF) is to turn it into a bank which could then access funding from the European Central Bank, but both the central bank and the German government have opposed this. Failure to agree on a deal would further undermine financial markets’ already shattered confidence in the currency bloc and its ability to get on top of a two-year-long debt crisis, which threatens the long-term viability of the single currency.

In Greece, parliament gave initial approval to a new round of belt-tightening measures needed to avert a default which could reverberate throughout the wider euro zone. Greece remains mired in recession and its overall debt is forecast to climb to $489bn this year, or 162 percent of annual economic output. Greece secured an agreement last year for a ¤110bn ($149bn) bailout package from the Europe Union and the IMF but it has had to convince the lenders that it is implementing stringent spending cuts to qualify for each loan installment. EU leaders will discuss new ways to help out Athens at their summit and rubber-stamp the release of the next ¤8bn in loans.  Agreed on July 21, the second bailout has faced mounting opposition from countries such as Slovakia, unwilling to continue filling Athens’ empty coffers.

The main weapon the euro zone has to fight the crisis is the EFSF, a ¤440bn fund that was set up in May last year and has so far been used to help bail out Portugal and Ireland.   Europe has come under intense pressure from its international partners to take radical steps to contain the crisis that now threatens to drag the world economy back into recession. The whole world awaits a resolution. European leaders will need to stabilise Greece, set up a credible financial firewall to stave off any contagion to large economies such as Italy and Spain, and recapitalise banks.