The End of Old Europe: Why Merkel's Triumph Will Come at a High Price

Despite German resistance, Van Rompuy, Barroso and Euro Group President Jean-Claude Juncker do not want to give up their plans for common euro bonds. At the summit, the heads of state and government agreed that the trio would submit concrete proposals on the introduction of such bonds by March 2012. One of the purposes of the euro-bond effort is to break the German-French entente, an EU diplomat explained.

In order to make an agreement possible at the summit, Germany had to make additional concessions. One thing that will not materialize is the right to file suit against deficit offenders before the European Court of Justice, something that Merkel had been demanding for weeks.

The Brussels compromise will also become more costly for the Germans than previously planned. If the launch date of the permanent bailout fund, the European Stability Mechanism, is moved up to mid-2012, as was agreed at the summit, Germany will have to pay its cash contribution a year earlier. This translates into an additional burden on next year's budget of at least €4.3 billion. Additionally, Berlin had to pledge that it agreed with the cap on the ESM, currently set at €500 billion, being "reassessed" in March 2012.

The euro-zone countries also want to give the International Monetary Fund (IMF) up to €200 billion in loans for aid to euro countries. The money is to come from the central banks of the EU countries. Germany's central bank, the Bundesbank, opposes the plan, which it sees as a trick to circumvent the regulation that prohibits the ECB from financing governments.

'Very Ambitious' Timetable

But how quickly can all the results be implemented? And how determined are those European leaders who have reluctantly given in to Merkel and Sarkozy to follow their words with actions? And how much resistance will the plans to transfer a portion of sovereignty to Brussels encounter in their respective countries?

Norbert Lammert, the president of the German parliament, the Bundestag, and a member of Merkel's CDU, believes that the timetable for the planned reforms is "very ambitious," but he is also convinced that they will not fail in the Bundestag. He does have concerns, however, over whether the planned changes can be brought in line with rulings made by Germany's Federal Constitutional Court.

"The Bundestag will carefully review possible constitutional problems that could result from direct intervention by the European Commission or a European currency commissioner in national budgets and thus the parliament's budgetary powers," says Lammert. "The Bundestag will take great care to ensure that such constitutional risks are avoided."

First, however, investors will have to be convinced that the approved measures are in fact sufficient to save the euro. The head of the European Financial Stability Facility (EFSF), German economist Klaus Regling, encountered skepticism when he spoke with investors on the phone on the evening of the summit. They told him that they intended to reduce their exposure in the euro zone.

Calls for the Big Bazooka

Italy and Spain, which have both been hit by the crisis, will have to once again borrow large amounts of capital already in January. If buyers continue to shun their bonds, there will immediately be renewed calls to deploy the instruments Merkel has consistently rejected, namely euro bonds and a massive intervention by the ECB.

The German chancellor knows all too well that her coalition partner, the liberal Free Democratic Party (FDP), will not go along with jointly issued bonds. If she supported euro bonds, her coalition would be finished. That is a step she is not prepared to take, she recently told close associates.

The chancellor is much more flexible when it comes to the ECB. Merkel and Finance Minister Wolfgang Schäuble are tacitly relying on the central bankers for their help in saving the euro. Merkel and Schäuble are calculating that they will rush to the euro's aid with their unlimited funds if the continued existence of the monetary union is in danger. That would not require a banking license for the EFSF or its permanent successor, the ESM.

Because of its independent position -- so the thinking goes -- the ECB could provide any financial institution with cash in return for collateral. Besides, it still makes its own decisions on the quality of collateral. Consequently, it would be easy for the ECB to provide capital for the bailout funds, even without them having a banking license. If necessary, the central bank could also become directly involved in the bond markets and buy up securities on a massive scale to rescue the euro.

Saving Their Own Jobs

In the opinion of government officials, this approach would be in the ECB's own interest. The argument is that the monetary watchdogs in Frankfurt would never go so far as to put their principles and concerns over their own future. If the euro were to fail because they refused to provide assistance, they would be making themselves redundant. Hence, officials at Berlin's ministries are assuming, the heads of the ECB will do everything to ensure the continued existence of the euro -- and, with it, their jobs.

In their baseline scenario, German Finance Ministry officials assume that the monetary union will continue to consist of 17 members. A different scenario, which they believe is less likely to occur, assumes that Greece leaves the euro zone, while all other countries stay.

If necessary, say Finance Ministry officials, the two bailout funds will still have hundreds of billions of euros available, enough money so that even Italy could be kept afloat for a few months. And if it isn't enough, the ECB will simply have to step in.

REPORTED BY ARMIN MAHLER, PETER MÜLLER, RALF NEUKIRCH, CHRISTIAN REIERMANN AND CHRISTOPH SCHULT

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• Part 1: Why Merkel's Triumph Will Come at a High Price
• Part 2: A Costly Compromise for Germany