In early 2010, when Greece first ran into serious debt problems and required an immediate €110 billion ($148 billion) bailout, the debate in Europe was more of a philosophical one. European Union member states, said many, should not be forced to pay the debts of fellow members.
This year, the discussion has taken a much more existential turn. With an ever-increasing number of countries becoming infected by the debt contagion spreading across the Continent, serious questions have been raised as to whether the EU is even able to help out its struggling members. And the heart of the increasingly tense debate as to what should happen next has become the ongoing clash between France and Germany. Should the European Central Bank (ECB) become the lender of last resort or not?
On Wednesday, France reiterated its affirmative answer to that question. In comments to the newspaper Les Echos, French Finance Minister Francois Baroin demanded that the ECB step in to do everything in its power to prop up the common currency. "We want to deploy all European institutions, including the ECB, to find the best possible answers to the crisis," he said.
Baroin added that the US Federal Reserve "actively intervenes" in times of need, as do the central banks of Britain and Japan. The ECB, he demands, should do the same.
Berlin, however, is adamantly opposed to such a move . Were the ECB to flood the market with liquidity in the form of unlimited purchases of government bonds from debt-stricken euro-zone member states, rapidly climbing inflation could be the result. And Germany, for historical reasons stretching back to the 1920s -- when hyperinflation smoothed Adolf Hitler's rise to power -- has a deep-seated phobia of rapidly rising prices.
Chancellor Angela Merkel on Wednesday reiterated her government's opposition. Speaking in Berlin, she said: "We interpret the treaties such that the ECB doesn't have the authority to solve the problems." She insisted that the primary problem at the moment is that, while European Union leaders agreed to boost the firepower of the euro backstop fund -- the European Financial Stability Facility (EFSF) -- at a summit in late October, the agreed upon resolutions have yet to be implemented.
She apparently received some high-powered support on Thursday. Wolfgang Franz, head of the influential German Council of Economic Experts -- which advises the government on economic issues -- expressed vehement opposition to unlimited ECB bond purchases.
"History has shown us, and not just in Germany, that the monetization of state debt is a deadly sin for central banks," Franz told the Frankfurter Allgemeine Zeitung in an interview published on Thursday. "Doing so not only results in a loss of independence, but it also raises the risk of inflation. Finally, it also represents the undemocratic collectivization of debt under the auspices of the ECB."
Limited Eagerness to Invest
The debate between Paris and Berlin has increased in volume in recent days as indications grow that the EFSF, despite the adjustments to the fund made in late October, may not be large enough to put a halt to Europe's debt crisis. Furthermore, the plan to leverage the fund from its current lending capacity of €440 billion to €1 trillion, in part by attracting outside investors, may ultimately fail. Given recent political chaos in Greece and Italy, along with indications that financial markets have lost faith in Rome's ability to manage its outsized debt load, not many have shown much eagerness to invest in the EFSF.
Indeed, even despite the departure of Silvio Berlusconi and the Wednesday swearing-in of a new cabinet of experts under the leadership of respected banker Mario Monti, interest rates on sovereign bonds issued by Rome remain high. On Thursday, the rate was just over the 7 percent mark, the level considered unsustainable in the long term.
Furthermore, danger signs have cropped up in several additional euro-zone member states in recent days. Interest rates on French sovereign bonds have crept upward this week and are now double the rates that Germany has to pay. Furthermore, the country's economy is set to grow less than 1 percent next year -- partially as a result of the €18 billion austerity package recently passed in Paris. Concerns are rising that France could lose its top AAA credit rating before long.
Critical Debt Auction
Austria has also run into difficulties on the financial markets, with its bond interest rates having climbed as high as those of France. While the country's public debt remains at a relatively low 72 percent of gross domestic product, the large exposure of Austrian banks to Eastern Europe have analysts assuming that the government will have to spend billions to prop them up.
Belgium, which has been stuck in a political crisis for well over a year now as the country has been unable to assemble a government, has also been hit by rising interest rates, with yields on 10-year-bonds rising to 4.8 percent this week, a record high.
In Spain, yields have likewise risen sharply in recent days. In a Thursday €3.56 billion auction of 10-year bonds, Spain had to pay an interest rate of 6.9 percent, the most the country has had to pay for debt since 1997.
Given the uneasiness, it seems likely that the debate over the ECB's future role in the euro crisis will only become more heated. Furthermore, European Council President Herman Van Rompuy on Wednesday reiterated his cautious support for the idea of "euro bonds," which would essentially collectivize European debt. Berlin is adamantly opposed to that deal as well for fear of risking its own AAA rating.
European Commission President Jose Manuel Barroso has warned that the ongoing crisis poses a serious risk to the cohesion of the European Union. "We are facing a truly systemic crisis," he said in comments before the European Parliament on Wednesday.