The European Union has two substantial problems, one is fragmentation, the other a lack of courage. Fragmentation makes the political process messy and complex. Different countries in different situations have different interests. It is hard to talk with one voice and to act with one hand in a Union of 27 and a single currency zone of 17 countries.
A lack of courage makes it on the other hand impossible to address rapidly and effectively a crises. The Greek dossier is now on the table for two years without being resolved. Now the possible default risks to become a major problem for the survival of the whole Euro zone. European leaders, overall the German chancellor and the French president, have failed to treat the problem properly. The handling was far too timid. Otherwise the crises could not spill over to some of the biggest core countries of the Euro zone, notably Spain and Italy.
Greece has a public debt of not even 400 Bill. Euro, Spain roughly double and Italy more than four times that amount. Nice difference, isn't it? The figures show, how disastrous a full blown contagion would be. Europe would not be prepared for that.
Up to now the leaders agreed to set up a European financial stability facility of 440 Bill. Euro, that should step in to stabilize weak countries, if it occurs. For Greece the current dimension of this rescue fund seems to be sufficient. Not for Italy and Spain. Their debt piles are far too massive to be handled by the EFSF. So the first thing to do is therefore to beef up these funds by four to five times of todays dimension. It seems to be bold, but there is no choice. Furthermore the fund could be leveraged, if needed, which would prevent money-flows from the member countries. Market participants would soon recognize, that European leaders will not accept a failure of the Euro zone. This would lift most of the pressure and provide air to breath. In that scenario I'm quite sure that the fund would not even be used.
As a second step European banks should be recapitalized in oder to end the speculations of bank defaults. The balance sheets of the banks are full of sovereign debt, Italian banks have mostly Italian bonds, Spanish banks spanish bonds and Greek banks greek bonds. As long as markets valued this sovereign debt as risk free it didn't represent a problem, now that the markets calculate with a probability of sovereign default it has become a major issue overall for the bank of the crises countries. There is no way out, the capital of these institutions have to be strengthened, if possible through the markets, if necessary with public money. A bank default would cost far more than the amount of money, that should be now injected into the system, overall because it is not thrown in a dust bin. The government would simply buy a stake of the system, that could be sold in the next couple of years, maybe even with profit.
Beefing up the EFSF means to stop the market rout, strengthening the banks capital base means providing the financial system with stability and calm the nerves. The debt crises could be ended in that way.
Europe needs to act quickly. The alternative is not acceptable. The Euro zone would be destroyed and a prolonged, severe economic crises would follow. In such a gloom-and-doom-scenario the social and political effects for the continent are totally unclear.
Do the European leaders have enough courage to do the right thing?