AMERICAN FUTURE

Reactions to the Results of the EU Summit Meeting

This is an extremely long post with complete articles from the Financial Times, the Economist, the Guardian, Spiegel Online, and the Centre for European Reform (a British think tank). So as to avoid inserting my own slant on the outcome of the summit meeting, I decided not to post shortened, edited versions.

The articles are below the fold.

Financial Times

• In “Eurozone crisis might move from acute to chronic phase,” Gavyn Davies writes:

1. How different will this prove to be in practice from the old status quo?
2. Is it a good idea from an economic point of view?
3. Does it allow the European Central Bank in future to play the same role in the eurozone as the Federal Reserve and the Bank of England have been playing in the US and the UK?

My initial take on the deal is that it will be sufficient to dampen the acute phase of the crisis, but that the absence of a clear long-term strategy for growth means that there could still be a long period of chronic problems ahead.

First, then, how different is this deal from the status quo on fiscal policy?  There are certainly some important differences, though they might be rather more important in political symbolism than in economic reality. This will depend on the fine print, which has still to be written.

The key difference from the “six pack” of regulations which was implemented in November (see this earlier blog) is the new fiscal rule, which requires that:

General government budgets shall be balanced or in surplus; this principal shall be deemed to be respected if, as a rule, the annual structural deficit does not exceed 0.5 per cent of nominal GDP. Such a rule will also be introduced in member states’ national legal systems at constitutional or equivalent level. The rule will contain an automatic correction mechanism that shall be triggered in the event of deviation.

This rule, which will be enshrined in a new international agreement, certainly sounds very tough. The fact that it will now be written into national legislation, and that it will allow the European Commission to participate in the framing of national budgets, are significant steps. However, the Stability and Growth Pact contains a similar medium-term objective for budgets already built into it, and also contains sanctions which are automatic, unless overturned by a qualified majority of the Council. So the fiscal rule is not entirely novel.

A breach of the new rule is not determined by simple arithmetic, but by the Commission, which takes into account many special circumstances (such as the existence of a deep recession) before declaring non-compliance. This will remain the case. The upshot is that the new fiscal regime will probably increase the political pressure on governments to move towards balanced budgets, but the actual practice is likely to be much less automatic and less rigid than the summit communiqué seeks to suggest.

Second, is any of this a good idea from an economic point of view? Here we enter much-debated territory. The obvious problem with placing a greater onus on countries to adopt more fiscal austerity (which in several cases is obviously needed, whether or not fiscal indiscipline was the original cause of the crisis) is that it also makes it much more difficult to emerge from recession. So we might expect the summit to have seriously addressed the need for a growth strategy.

On this, the communiqué is extremely unconvincing. It does mention the “new macro-economic imbalances procedure”, which has also just been adopted by the European Union. This is intended to increase the pressure on surplus countries (mainly Germany) to accept a greater responsibility for closing balance of payments imbalances, rather than leaving it all to the deficit countries to handle through fiscal contraction. But this resolution, unlike the fiscal rule, has no teeth for non-compliance. The missing growth strategy, and the missing plan to eliminate competitiveness imbalances in the eurozone, could prove to be very serious omissions indeed.

Third, does this deal enable the ECB to act more like a normal central bank in the eurozone? This is certainly one of the main purposes of the deal, so this question is crucial. Mario Draghi’s initial reaction is positive. Last week, when he talked about “sequencing”, it was clear that the ECB would only contemplate “other elements” if an acceptable fiscal compact was in place first. That box is now ticked, in his view. He also said last week that “confidence works backwards”, implying that if a credible end point was in place, then the ECB might be more willing to take steps to provide bridging finance to that ultimate destination.

It will now be crucial to discover what the “other elements” in Mr Draghi’s mind will turn out to be. At a minimum, there are grounds for hoping that this might include an increase in ECB bond purchases under the Securities Markets Programme. It might also include a more comprehensive acceptance of quantitative easing at the ECB, if deflation proves to be a serious threat during the coming recession. It could even include a willingness to adopt measures to fix the bond spread between Germany and other countries, but that still seems a stretch.

Any of these developments would be hard for the hawks on the ECB Governing Council to accept. It will be interesting to see what the Bundesbank, Germany’s central bank, has to say about the fiscal compact, given that it has always opposed quantitative easing in any circumstances, whatever the fiscal arrangements might be. Does this attitude change now that Angela Merkel, the German Chancellor, has achieved the fiscal union which she wanted, and the ECB President has described the outcome as “a very good” one? Even the Bundesbank might find it difficult to oppose this powerful combination.

So the eventual importance of this summit might be that it has brought the eurozone’s economic strategy more into line with that in other countries, involving some fiscal tightening along with a greater willingness to adopt unconventional monetary easing. Once again, governments are relying on the power of the central bank balance sheet to get them out of a hole.

• In “The gap between summit rhetoric and reality,” which includes excerpts from comments from Goldman Sachs and Citi, John McDermott writes:

Judging by markets’ immediate responses to the EU summit, Gavyn Davies’ summary of the new reality seems spot on:

My initial take on the deal is that it will be sufficient to dampen the acute phase of the crisis, but that the absence of a clear long-term strategy for growth means that there could still be a long period of chronic problems ahead.

As ever, though, there’s a gap between rhetoric and reality in the summit announcements, which may make such a conclusion premature.

And while the UK’s approach has gotten the headlines and will mark a turning point in its relations with Europe, it was never going to determine whether the eurozone will survive. It was ham-fisted diplomacy but shouldn’t have been surprising to anyone who knows anything about UK politics who watched Wednesday’s Prime Minister’s Questions.

The new political (the “fiscal compact”) and funding arrangements are what matter, along with the response of the ECB.

The fiscal compact has some worthy long-term goals but won’t in itself be able to solve the eurozone’s balance of payments problems, and it also introduces a new round of political risk into the first half of 2012. It’s also unclear whether the European Commission has the requisite authority to provide institutional support to the compact — though Brussels remains supremely gifted at legal pragmatism, if nothing else.

In short, it’s unclear whether (1) the deal has enough power to change states’ behaviour (a problem worsened by the fact it’ll take time that the eurozone doesn’t have to show how the rules work), and (2) it can escape unscathed from the small country electoral gauntlet it’s about to run.

On (1), here is Goldman Sachs’ take (emphasis ours)…

… the fiscal rules (or ‘fiscal compact’) do not go beyond what we expected. ECB President Draghi has highlighted that such rules are required before any other policy actions might follow. The ‘ex ante’ component – which Draghi emphasised as key – consists of reporting debt issuance plans. That seems to use to be relatively weak as a fiscal rule. Further measures may follow and more details will need to be worked out today. Debt rules will also apply in each country, with the European Court of Justice verifying that they are enacted at the national level. But that falls short of monitoring on an ongoing basis.

… and Citi’s (emphasis also ours):

However, the available decisions do not expand on the form of sanctions and to us it remains very unclear how these sanctions can be enforced. As the fiscal compact – mainly because of UK opposition – will not be part of the EU Treaty and will be only an “international agreement”, it remains uncertain whether the EU Commission or the ECJ will have the rights to enforce these measures. In case the Commission is able to enforce the measure and has the right to take away national sovereignty for the 17 euro area member states, the agreement might require a referendum in some member states, e.g. Ireland. The other open question is how national constitutional courts (e.g. Germany) will regard this agreement.

The rules don’t do anything to encourage the surplus countries to spend more as a way of aiding the underlying balance of payments crisis. Moreover, the “automatic” penalities for breaking fiscal “rules” will apply “unless a qualified majority of euro area Member States is opposed”, which as a Goldman note from earlier in the week points out leaves a lot of potential wiggle room:

A qualified majority vote does also require that at least half of the countries are in favour. For the Eurozone specifically this means a minimum of 9 countries have to approve, collecting at least 73.9% of the voting rights. There is even a third requirement: that the countries voting in favour represent 62% of the Eurozone population

It is clear that a number of small countries can quite easily block a QM vote. Here is the most extreme theoretical example: If the 9 smallest countries vote against a motion, a Qualified Majority cannot be reached by the remaining 8 countries. However, the 9 smallest countries collectively represent only 50 of 213 QM votes, and only 7.5% of the overall Eurozone GDP.

So it may appear that small countries carry disproportionate weight. But large countries also enjoy special protection. Given the 73.9% majority rule, any group of countries combining 56 votes or more out of 213 can block a QM. Germany and France together have 58. Looking at a group of fiscally stronger countries in the Eurozone, like Germany, Netherlands, Finland and Austria also represent a blocking minority with 59 votes.

The reality of QM voting in Europe is that individual country’s interests are relatively strongly protected. For small and large countries it is relatively easy to build coalitions that can block a Qualified Majority.

Not all that different, then, to the Stability and Growth “Pact”.

And it’s more of the same austerity for the deficit countries, which won’t help in the short-term. Indeed, Europe is still asking Greece to experience an enormous amount of pain for an unspecified amount of time. A fiscal union this is not.

On (2), here’s an excerpt from a Eurasia Group note published Friday:

… a new round of ratifications will now take place across the member states in the first half of 2012: in the first instance to sign off the ESM treaty, and in the second instance, for the intergovernmental agreement after the March European Council, once final consensus on the substance to be included in the new framework has been achieved. With the latter also comes the risk of referendums in Ireland, and potentially elsewhere, although this will ultimately depend on exactly what is in the agreement and the extent to which it is determined to be a meaningful transfer of sovereignty. There is also a risk that the new bilateral member state loans (via national central banks) to the IMF may not equate to EUR 200 billion, and that it may take longer to reach agreement than the ten days specified in yesterday’s communique.

In other words, the Finnish Parliament, the German Constitutional Court and the Irish people, at least, may yet have their say. Admittedly, the summit statement is designed to overcome the pesky Finns, since the ESM requires the agreement of member states representing 90 per cent of the ESM’s committed capital. But even so, it’s not going to be an easy ride.

Then there’s the gap between the stated funding for the EFSF, ESM and IMF, and the reality. The statement refers to a €500bn ($670bn) “ceiling” on the combined EFSF and ESM, but the same old problems about the former’s credibility remain. Wire reports, echoed in Sarkozy’s comments after the summit concluded on Friday morning, suggest that the ESM may be able to borrow from the ECB. This would be an important change but it would still be dependent on the ECB’s willingness to allow it to borrow. The IMF agreement is good news but the €200bn lacks (any) detail. Moreover, the summit note that “We are looking forward to parallel contributions from the international community” is sadly unspecific.

All told, we remain, as ever, sceptical. This wasn’t a complete failure but it certainly wasn’t success.

Fortunately, it doesn’t matter what we think. It matters what Mario Draghi thinks, and thus far he’s sounded cautiously optimistic.

Which is always a dangerous attitude in Europe.

• In “The only way to save the eurozone is to destroy the EU,” Wolfgang Munchau writes:

So we have two crises now. A still-unresolved eurozone crisis and a crisis of the European Union. Of the two, the latter is potentially the more serious one. The eurozone may, or may not, break up. The EU almost certainly will. The decision by the eurozone countries to go outside the legal framework of the EU and to set up the core of a fiscal union in a multilateral treaty will eventually produce this split.

I wrote in October that a time will come when the interests of the eurozone will not only collide with those of the non-eurozone, but with the EU itself. We are now at that point. On Thursday night, Angela Merkel and Nicolas Sarkozy clashed with David Cameron in a familiar Britain-versus-the-rest diplomatic standoff. That itself is not new. But a determination to go outside the treaty to overcome the disagreements adds a new dimension to this long-lasting dispute.

The fiscal union likely to be agreed in March may not initially be very effective in resolving the crisis. It focuses on all the wrong issues, mostly fiscal discipline, which is not the real reason why the crisis has spread to Spain or Belgium, for example.

But the eurozone nevertheless made an important political statement. It will not allow outsiders to stand in the way when it needs to act. For the monetary union to survive, its one-sided, ill-conceived fiscal union will have to become more effective. Over time it will have to usurp central EU roles, especially in the internal market. I would expect it to create its own internal market inside the existing one. It will have to develop a highly integrated financial market with a single financial supervisor. In particular, I do not believe that the eurozone will allow a situation to persist where its main financial centre is located offshore [i.e., in London]. It will also want to set labour market rules and co-ordinate tax policies. In all of those areas, the eurozone and the EU will get into a permanent legal and political conflict, in which the EU acts as a brake on the eurozone’s development.

One way or the other, this conflict is bound to lead to an eventual split of the EU. I have no idea when or how this will happen. The technicalities are not all that important. Of course, no member can be ejected from the EU. But there is nothing that can stop others from taking action that protects their interest. The new Lisbon treaty makes it possible for countries to leave the EU voluntarily, which means that legally it is possible for the eurozone plus the aspiring members to set up their own rival organisation – in theory. In pratice, that is not likely to happen, but the mere existence of a divorce procedure is probably sufficient to bring about this eventual outcome.

Thursday’s European Council meeting has demonstrated that a monetary union cannot co-exist with a group of permanent non-members in unified legal framework. The EU with its current treaties and institutions has proved to be an insufficiently flexible framework to run a monetary union and a disastrous framework for a monetary union in crisis.

These latest developments have reaffirmed my conviction that the only way to save the eurozone is to destroy the EU. But European governments may, of course, end up destroying both. All they did in the early hours of Friday morning was to create a new crisis without resolving the existing one.

The Economist

• “Europe’s great divorce,” by Charlemagne

What is clear is that after a long, hard and rancorous negotiation, at about 5am this morning the European Union split in a fundamental way.

In an effort to stabilise the euro zone, France, Germany and 21 other countries have decided to draft their own treaty to impose more central control over national budgets. Britain and three others have decided to stay out. In the coming weeks, Britain may find itself even more isolated. Sweden, the Czech Republic and Hungary want time to consult their parliaments and political parties before deciding on whether to join the new union-within-the-union.

So two decades to the day after the Maastricht Treaty was concluded, launching the process towards the single European currency, the EU’s tectonic plates have slipped momentously along same the fault line that has always divided it—the English Channel.

Confronted by the financial crisis, the euro zone is having to integrate more deeply, with a consequent loss of national sovereignty to the EU (or some other central co-ordinating body); Britain, which had secured a formal opt-out from the euro, has decided to let them go their way.

Whether the agreement does anything to stabilise the euro is moot. The agreement is heavily tilted towards budget discipline and austerity. It does little to generate money in the short term to arrest the run on sovereigns, nor does it provide a longer-term perspective of jointly-issued bonds. Much will depend on how the European Central Bank responds in the coming days and weeks.

Some doubt remains over whether and how the “euro-plus” zone will have access to EU institutions—such as the European Commission, which conducts economic assessments and recommends action, and the European Court of Justice, which Germany hopes will ensure countries adopt proper balanced-budget rules—over Britain’s objections.

But especially for France, on the brink of losing its AAA credit rating and now the junior partner to Germany, this is a famous political victory. President Nicolas Sarkozy had long favoured the creation of a smaller, “core” euro zone, without the awkward British, Scandinavians and eastern Europeans that generally pursue more liberal, market-oriented policies. And he has wanted the core run on an inter-governmental basis, ie by leaders rather than by supranational European institutions. This would allow France, and Mr Sarkozy in particular, to maximise its impact.

Mr Sarkozy made substantial progress on both fronts. The president tried not to gloat when he emerged at 5am to explain that an agreement endorsed by all 27 members of the EU had proved impossible because of British obstruction. “You cannot have an opt-out and then ask to participate in all the discussion about the euro that you did not want to have, and which you also criticised,” declared the French president.

With the entry next year of Croatia, which will sign its accession treaty today, the EU is still growing, said Mr Sarkozy. “The bigger Europe is, the less integrated it can be. That is an obvious truth.”

For Britain the benefit of the bargain in Brussels is far from clear. It took a good half-hour after the end of Mr Sarkozy’s appearance for Mr Cameron to emerge and explain his action. The prime minister claimed he had taken a “tough decision but the right one” for British interests—particularly for its financial-services industry. In return for his agreement to change the EU treaties, Mr Cameron had wanted a number of safeguards for Britain. When he did not get them, he used his veto.

After much studied vagueness on his part about Britain’s objectives, Mr Cameron’s demand came down to a protocol that would ensure Britain would be given a veto on financial-services regulation (see PDF copy here). The British government has become convinced that the European Commission, usually a bastion of liberalism in Europe, has been issuing regulations hostile to the City of London under the influence of its French single-market commissioner, Michel Barnier. And yet strangely, given the accusation that Brussels was taking aim at the heart of the British economy, almost all of the new rules issued so far have been passed with British approval (albeit after much bitter backroom fighting). Tactically, too, it seemed odd to make a stand in defence of the financiers that politicians, both in Britain and across the rest of European, prefer to denounce.

Mr Cameron said he is “relaxed” about the separation. The EU has always been about multiple speeds; he was glad Britain had stayed out of the euro and out of the passport-free Schengen area. He said that life in the EU, particularly the single market, will continue as normal. “We wish them well as we want the euro zone to sort out its problems, to achieve stability and growth that all of Europe needs.” The drawn faces of senior officials seemed to say otherwise.

The 23 members of the new pact, if they act as a block, can outvote Britain. They are divided among themselves, of course. But their habit of working together and cutting deals will, inevitably, begin to weigh against Britain over time.

Mr Sarkozy and Angela Merkel, the German chancellor, have given notice of their desire for the euro zone to act in all the domains that would normally be the remit of all 27 members—for example, labour-market regulations and the corporate-tax base.

Britain may assume it will benefit from extra business for the City, should the euro zone ever pass a financial-transaction tax. But what if the new club starts imposing financial regulations among the 17 euro-zone members, or the 23 members of the euro-plus pact? That could begin to force euro-denominated transactions into the euro zone, say Paris or Frankfurt. Britain would, surely, have had more influence had the countries of the euro zone remained under an EU-wide system.

It says much about the dire state of the debate on Europe within Britain’s Conservative party that, as Mr Cameron set out to Brussels, another Tory MP portentously invoked the memory of Neville Chamberlain, who infamously came back from Munich with empty assurances from Adolf Hitler. Mr Cameron may have made a grievous mistake with regard to Britain’s long-term interest. But at least nobody can accuse him of returning from Brussels with a piece of paper in his hand.

• “Britain, not leaving but falling out of the EU,” by Bagehot

BRITAIN did not walk out of the EU last night. But let there be no doubt about it: we have started falling out.

David Cameron finally did what British prime ministers have threatened in Europe so many times, and used his veto last night in Brussels, my BBC radio told me at dawn this morning. This is an astonishingly dramatic moment, the BBC added: the British prime minister has refused to sign up to a new EU treaty involving all 27 members, because the rest, led by France and Germany, would not grant him the safeguards he sought giving Britain powers to block unwelcome regulation of the City of London.

As a result of Mr Cameron’s veto, the BBC said, 23 other countries have now agreed to seek their own fiscal pact involving deep integration around the tax and spending powers of member governments. Standing on its rights as a member of the current EU treaties, Britain argues that such a pact within a union should not be allowed to use the institutions that legally belong to the 27, such as the European Commission, the European Council or the European Court of Justice. At one point, an EU diplomat informed me in an overnight email, Mr Cameron could be heard arguing with his fellow-leaders that when members of the new club of 23 hold their planned monthly summits, they should not be allowed to use the buildings and meeting rooms of the European Council.

The BBC’s exceedingly well-informed political editor Nick Robinson predicts this will lead to a long series of legal battles and rows with other EU countries, and to calls from gleeful British Eurosceptics to press on and seek a wholesale renegotiation of British relations with Europe (which they will then want put to a referendum, threatening to split the Conservative-Liberal Democrat coalition).

That stuff about drama and rows is clearly right. But I fear I do not see where Mr Cameron used his veto.

In my version of the English language, when one member of a club uses his veto, he blocks something from happening. Mr Cameron did not stop France, Germany and the other 15 members of the euro zone from going ahead with what they are proposing. He asked for safeguards for financial services and—as had been well trailed in advance—France and Germany said no. That’s not wielding a veto, that’s called losing.

Now, the EU is proposing quite a range of damaging and stupid new rules for financial markets. Anthony Browne, a chief policy aide to the Mayor of London (and key Cameron rival) Boris Johnson has a point when he writes this morning on ConservativeHome that:

Faced with a choice between an EU treaty to save the euro and retaining control of regulation of the City, President Sarkozy decided to retain regulation of the City

But nobody can say they were surprised. The French government has been saying for weeks that it would not allow Britain to have a sweeping opt-out from financial services rules. Only last week, I quoted a pair of French government sources in my column, writing:

France sees a strong Europe as a lever of influence. Disliking the enlarged EU of 27 countries (in which its clout is diluted), France wants to use the euro crisis to deepen integration around a core of countries that use the euro, under the political control of a handful of big national leaders. To comfort French voters, Mr Sarkozy has started talking up euro-zone integration as a shield against globalisation and bullying by financial markets.

Today’s unprecedentedly Eurosceptic Conservative Party sees a strong Europe mostly as a threat to Britain’s global leverage. Mr Cameron says he supports deeper integration within the euro zone, as long as Britain does not have to pay, loses no sovereignty and yet is not marginalised. That is not enough for Tory MPs. They want the prime minister to use changes in the EU’s architecture to secure concessions, such as opt-outs from European employment law or EU rules that harm the City of London.

French sources call it “totally unacceptable” to allow British banks to set up in deregulated competition just across the Channel. Britain wants rights of oversight over the euro zone, it is said in Paris: well, the euro zone needs oversight over the City of London. If Britain seeks to “profit” from the crisis, then rule changes can be agreed by countries that use the euro, excluding Britain

And a very big part of what happened last night was a reflection of Mr Cameron’s weakness within his own party, following a rebellion over a Europe vote that saw 81 Tory MPs ignore a strict, three-line whip. What happened last night, in addition to a fight to protect the City of London, is that Mr Cameron failed to secure a deal that he felt able to sell to his deeply Eurosceptic party (with two cabinet ministers demanding a referendum on any new treaty in the last few days, and scores of MPs ready to rebel on any EU bill put through the House of Commons).

It is worth being clear about this. Mr Cameron says he refused to sign up because he was defending British national interests in the long-term. In the immediate term, he took the decision to reject a new EU treaty because he was not sure he could get it through the House of Commons.

Having failed, he walked away, empty-handed. Just three other countries walked with him—Hungary, Sweden and the Czech Republic—and one or all of them may yet end up joining the new pact. We are not very far away from a final division of the club with 26 countries on one side, and one on the other.

This moment was both predictable and predicted. Everything dates back to a first meeting between the newly-elected David Cameron and Angela Merkel in Berlin in May 2010. By chance, in my previous role as Charlemagne, I was in the chancellery that day as one of a small group of Brussels correspondents invited for briefings from the German government. Mrs Merkel badly wanted Britain to stay on the inside track of the EU, we learned, fearing that she would find herself alone in the room with France and the Club Med countries. She wanted Britain and others for balance, and was anxious not to push away allies such as Poland who in theory plan to join the euro one day and are desperate to avoid being in an outer core.

Thus Mrs Merkel wanted to push ahead with new treaties to save the euro at the level of all 27 countries. I stayed on to watch Mr Cameron’s meeting and joint press conference, and heard the British prime minister explain that he wished the euro well, but could not commit Britain to any involvement in deeper integration. I wrote this:

Mr Sarkozy dreams of building a new power structure round the 16 euro-zone countries. But Mrs Merkel wants economic policy to be decided by all 27 EU members, precisely because she likes to balance “Club Med” members of the euro zone with more liberal countries, including Britain, Sweden, Denmark, the Czech Republic and Poland. Yet David Cameron, the British prime minister, is adamant that deeper economic co-ordination in Europe must affect only the 16. That may be savvy British politics, but it risks pushing Mrs Merkel into France’s arms.

A year and a half later, at some time around 4am last night in Brussels, Mr Cameron pushed Mrs Merkel into the arms of the French. She went along with this, and this was predictable too. In November I wrote a column from Berlin (sorry, last quotation from myself), setting out the German view:

there is frustration in Berlin at what are seen as British double-standards. Mr Cameron tells euro-zone members to do more to save their currency. Yet Britain does not offer to help and demands to be consulted on big decisions, for example on bank recapitalisation. In Brussels Mr Cameron tells the EU to beware of breaking up the single market, and stoutly defends free-trade rules that apply to all. Yet back in London, ministers talk of special opt-outs giving British business low-cost, deregulated membership of the common market.In Berlin the belief is that rewriting single-market rules would lead to many countries demanding more protections—the opposite of what Britain wants. Belgium, for instance, might push for more workers’ rights. Facing a tough re-election fight, Mr Sarkozy last week declared that Europe should not be a “dupe” when it came to global trade, and proposed EU import taxes to help pay for European welfare systems.

Germany’s priority is rules establishing unprecedented oversight of euro-zone economies. If Britain asks too high a price for its consent, Germany will reluctantly agree to a new treaty outside the EU system. This, it is expected, would involve more than 17 countries but fewer than 27. Britain would lose its veto

Berlin offered one more, very clear message: that British Eurosceptics were wrong to declare that Britain could become the leader of the 10 countries that do not use the euro, the ten “outs”. There is no club of outs, I was told, and Mr Cameron had a bruising taste of this reality at an October summit when Mr Sarkozy angrily told some of the countries outside the euro that they had no interest in siding with Britain.

What happens now? Well, British Conservative Eurosceptics divide into two broad camps. A more moderate camp have convinced themselves that EU membership is blocking the sweeping supply side reforms that they believe would propel Britain to renewed growth. They think that if Mr Cameron can only shed the influence of hand-wringing Euro-Quislings in the Foreign Office and the Liberal Democrat party, he can play hardball and renegotiate a new, low-cost, low-regulation free-rider membership of the single market.

This moderate camp is guilty, mostly, of excessive optimism.

For a fine summary of this position, look at this week’s Spectator magazine, and its main editorial, headlined: “Leadership, please.”

Published on the summit eve, the leader says:

British Europhiles have long scorned the concept of a ‘two-speed Europe’, but that is, by default, what is likely to emerge from the mess. We will have a first tier bound by fiscal as well as monetary union, smaller than the current eurozone, and second tier which will be increasingly divorced from the Franco-German power axis. Ideally, the second tier should impose minimal regulations and resemble the free trade area we signed up to in 1975.

David Cameron is losing an opportunity to assert himself as leader of a wider European alliance. It could be an appealing place: promoting the free movement of goods, people and capital, but with each country retaining sovereignty and the power to set its taxes, prepare its budgets and retain a veto over rules which will be harmful to its national interest.

The Prime Minister is in a position of great strength, if only he would realise it. He is in the position that John Major was in the early 1990s, having lost a disastrous gamble to enter the Exchange Rate Mechanism (another bad idea which this magazine was alone in opposing). Then, it was all too easy to portray Britain as isolated in Europe. Now, there are already ten EU nations outside the eurozone who will play no part in any fiscal union. It is a constituency begging for direction—if only David Cameron would seize his opportunity

This fantasy politics lasted all of 12 hours.

The other Eurosceptic camp are essentially pessimists. A big dose of their pessimism about the flawed initial structures of the single currency has been borne out by events: to have a grown-up debate, this needs admitting. But they are much too gloomy about the single market, which they believe is not worth the cost of Britain’s EU membership. They are much too sanguine, I would add, about the costs of a break-up of the euro (one Tory MP yesterday called for the disorderly break-up of the euro, while John Redwood, a darling of the right and former cabinet minister, today urges an orderly break-up of the currency as soon as possible). This camp thinks that British influence in the EU of 27 is not worth a candle. One red-faced misanthrope, Edward Leigh, yesterday told Mr Cameron not to come back from Brussels waving a piece of paper like Neville Chamberlain. For such Tory MPs, it is always 1938.

They would like Britain, essentially, to be Switzerland with nuclear weapons. I think Britain is bigger, and better than that.

Nor do I think we would be granted the sort of Swiss deal that British Tories yearn for. Switzerland is allowed access to the single market for relatively low cost because it is small. Because Switzerland is small, its absence from the single market table does not fundamentally alter the nature of that market. A walk-out by Britain, the largest free-market minded power in Europe, would change the nature of the single market fundamentally.

I also think that Switzerland’s deal with the EU is not as good as British Eurosceptics think. It is built around accepting large chunks of EU regulation without any say in order to protect Swiss bank secrecy.

Oh yes, the banks. The City of London is very important, and the EU has some bad ideas for regulating it. But I find it hard to cheer the idea that Mr Cameron took an extraordinarily big decision last night about our relations with Europe because he was so convinced he could not win arguments in Brussels about those regulations.

A final thought. If we do end up leaving the EU for the sake of the City of London (a big if) it would be ironic if some of those same banks and hedge funds then turned around and announced they were leaving Britain anyway because euro-zone rules made it impossible to work in London, and so they were off to a combination of Paris, Frankfurt, Zug and Singapore. So sorry old boy, nothing personal.

The Guardian

• In “As the dust settles, a cold new Europe with Germany in charge will emerge,” Ian Traynor writes:

As a clear damp dawn rose over Brussels on Friday morning, the tired and tetchy leaders of Europe emerged bleary-eyed from nine hours of night-time sparring over how to rescue the single currency and indeed the entire European project.

Brave faces were put on, bluffs called, counter-bluffs revealed, vetoes wielded. Histrionics from France’s Nicolas Sarkozy, poker-faced calm from Germany’s Angela Merkel, David Cameron gambling the UK’s place in Europe by opting to battle for Britain rather than helping to save the euro. When the dust settles, Friday 9 December may be seen as a watershed, the beginning of the end for Britain in Europe. But more than that – the emergence for the first time of a cold new Europe in which Germany is the undisputed, pre-eminent power imposing a decade of austerity on the eurozone as the price for its propping up the currency.

The prospect is of a joyless union of penalties, punishments, disciplines and seething resentments, with the centrist elites who run the EU increasingly under siege from anti-EU populists on the right and on the left everywhere in Europe. “For the first time in the history of the EU, the Germans are now in charge. But they are also more isolated than before,” said Charles Grant, director of the Centre for European Reform thinktank. “The British are certainly more marginal than before. Their influence has never been lower in my lifetime.” Whether or not the summit has saved the euro remains, of course, to be seen.

At a single stroke, however, it has transformed Britain’s place in Europe. With the fate of the currency at stake in the EU’s worst ever crisis, Cameron opted for a fight and lost, placing the interests of the City of London before the European priority. Battling for Britain and wielding my veto in the Great British national interest, Cameron averred. There are senior UK officials who believe the prime minister betrayed the British national interest by picking the wrong fight at the wrong time, losing, and forfeiting Britain’s seat at the table that will determine the future shape of the EU.

“Cameron has miscalculated and performed rather badly. He didn’t do well,” said a senior EU official. If the main summit narrative was UK v EU, the frictions, anxieties and animosities generated by Germany’s new ascendancy, however, extend much more broadly, enveloping France, Spain, Italy, Greece and others. Cameron went to Brussels saddled with backbench taunts of being the new Neville Chamberlain. The nasty references to 1938 appeasement of Hitler, however, are not only heard on the Tory backbenches and in the europhobic tabloids in Britain.

Sarkozy, too, is contending with attacks from the right and the left that he has capitulated to Berlin and is being compared with the Frenchman who was with Chamberlain in Munich in 1938 — Édouard Daladier. In Greece, Italy and Spain the talkshows and newspapers are bristling with anti-German grudges, regularly bringing up the second world war, the Nazis, the alleged “Fourth Reich”.

And in Germany itself, where its leaders are ambivalent about their new power and feel willfully misunderstood, columnists are calculating how much it is costing the country to bail out the eurozone’s feckless and comparing the figures to the colossal reparations it was forced to pay after the first world war, triggering the backlash which paved the way for Hitler. “We are going to have to put up with a bit of Germanophobia,” wrote Jakob Augstein in Der Spiegel this week. “Europe has returned to the stereotypes of the postwar years. The ugly German is back … it would be better for Germany to get things wrong together with its partners than to insist on being right alone.”

As German exports crash through the trillion euro barrier for the first time this year and arguments about surpluses and deficits are seen in Berlin as the rest of Europe wanting to penalise its industries for success, there is little sign of Merkel listening to her critics. The Germans, famously, do not read John Maynard Keynes. Presenting the case this week for a penalties-based euro regime as the response to the crisis, a senior German official said: “We have got to get away from the illusion that state spending creates growth.”

“Despite your understandable aversion to inflation, you appreciate that the danger of collapse is now a much bigger threat,” Radek Sikorski, the Polish foreign minister, countered last week in a speech in Berlin. It is not clear that the plea was appreciated. Because of the German preoccupation with saving and not spending and what is seen as monetarist fetishism, says Grant, “we face 10 years of austerity with grim German schoolmasters rapping everyone else over the knuckles”.

“When all this austerity hits the real economy, it will be bleak with unemployment going up,” adds a senior official in Brussels. “The recession we have now entered is the first ‘made in Europe’ recession since 1993,” says Jean Pisani-Ferry, head of the Brueghel thinktank in Brussels. “The euro crisis has already taken a significant toll on the European economy. If things continue to worsen the toll could be huge.” The epochal shift in the way power is wielded in the EU has been building incrementally for 20 years, since German unification, the destruction of the Deutsche mark, the birth of the single currency, and the liberation then integration of eastern Europe redrew the map and the politics of Europe.

But the sovereign debt emergency, the financial crisis, and the response of Europe’s leaders have brought the transformation into clearer focus than ever before this year. Germany calling the shots, France playing second fiddle, Britain sidelined, the eurozone split between haves and have nots, the smaller EU states fed up being dictated to by a Franco-German “directorium”, the European commission at its lowest point in years despised and ignored by Paris and Berlin, and the traditional pro-EU governing elite on the continent (not Britain) being challenged as seldom before by a new breed of anti-EU populists.

This dismal situation is compounded by a crisis of confidence in leadership and a crisis of credibility in the markets. “A fractured Europe, inward-looking and navel-gazing,” says Grant. “Unable to be a world player, staggering from crisis summit to crisis summit.” Others are less gloomy.

“Eventually Germany too will need to spend and invest,” says the senior EU official. “You will probably have a different French leader. Merkel could lose the next election. There can be a return to Keynesian economics. This may be a moment of the domination of German orthodoxy, but things can change.” The pleas to Merkel are becoming louder and more public. “This is the scariest moment of my ministerial life,” Sikorski told the German foreign policy elite in Berlin. “The biggest threat to the security of Poland today? Not terrorism, not the Taliban, certainly not German tanks. Not even Russian missiles. The biggest threat to the security and prosperity of Poland would be the collapse of the eurozone. I demand of Germany that, for your own sake and for ours, you help it survive and prosper. You know full well that nobody else can do it.”

Merkel is in an uncomfortable position, feared if she wields her power overbearingly and criticised if she fails to lead. She seems uneasy with Berlin’s new pre-eminence. “It’s absurd to say that Germany wants to dominate Europe in any way,” she told the Bundestag last week. But if she decides to heed the pleas, change course, and help the rest of Europe, Cameron is unlikely to be among the beneficiaries.

Although the main clash in the wee hours in Brussels on Friday was between Cameron and Sarkozy, it was Merkel’s, not Sarkozy’s, blueprint that the prime minister wrecked. Merkel was alone in demanding that the route out of the euro crisis was to re-open the Lisbon treaty and for all 27 member states to facilitate her stiff new euro regime. Indeed, her demand was opposed by the European commission, by Herman Van Rompuy chairing the summit, by France, and by many others who feared that re-opening Lisbon was jerking open a can of worms. Cameron’s veto saves their blushes. But it does not save the euro and for that there is likely to be payback for the British. At least 23 EU countries will now endeavour to hammer out a new separate stability pact with teeth over the next three months.

But because of legal wrangles over who is empowered to police and compel fiscal rigour and punish delinquents, the resulting pact may be weaker than Merkel planned. In the cold new Europe taking shape, the Germans are more powerful than everyone else, but not all-powerful.

Spiegel Online

• “ECB Path ‘Could Threaten Euro Zone Cohesion‘” – The European Central Bank is resisting calls to buy government bonds, but it has cut interest rates to just one percent. German commentators on Thursday examine whether the ECB is pursuing the right course of action in the face of the currency crisis.

German commentators Thursday analysed whether the ECB’s course of action was correct:

The center-right Frankfurter Allgemeine Zeitung writes:

“Draghi is doing everything possible to minimize the particularly sensitive issue of the unlimited purchase of government bonds. He emphasizes with almost the same words as Bundesbank president Jens Weidmann that the wording in the Lisbon Treaty and the spirit of the European treaties prohibit a monetary financing of governments and that the ECB will abide by the rules. Also, on the question of possible evasive transactions over the International Monetary Fund, Draghi is in line with the Bundesbank.”

“But at the same time, the new president is pushing up the pace of rate cuts as well as bailouts for the banking system in comparison to his predecessor Jean-Claude Trichet — at the expense of a fierce dispute in the European Council. There may be reasons for the second rate cut in two months. The rate of inflation is projected to go down again from 3 percent to the inflation target of just below 2 percent within six months. It should continue decreasing afterwards, at least according to the ECB forecasts. However, the inflation forecast for 2013, at 1.5 percent, is not as low as many central bankers had previously thought. It would therefore have been absolutely possible to first monitor the further economic trends, especially as Draghi’s assessment contains no threat of deflation at present.”

“The majority of the council, however, defied such objections, which was also shown in the vote on extending emergency aid to banks. … If the ECB under Draghi continues down this path, it could have the same risky consequences as the purchase of government bonds and could threaten the cohesion of the monetary union.”

Conservative daily Die Welt writes:

“The outlook for the euro zone is bad. Anyone who didn’t yet believe that needed only to look at the package of measures agreed to by the European Central Bank (ECB). The monetary authority not only lowered the key interest rate to an historical low of 1 percent, but in order to stabilize the shaky situation in the financial sector, the ECB has come to the aid of the banks, granting them liquidity for a period of three years. That the collateral which the banks must lodge for these loans has also been reduced is a sign of how bad things in Europe have really become.”

“What Europe needs is a package of short-term measures that can help bridge the liquidity problems of the crisis countries, coupled with a medium- to long-term adjustment program leading to economic growth. This means that the affected countries must reform their economies and labor markets so that wages and costs are reduced considerably. Companies in these countries will have to lay off hundreds of thousands of workers in order to become competitive internationally. The ECB has acknowledged the problem more clearly than many in the German government; the time frame of their measures for the banking sector shows that clearly.”

The Financial Times Deutschland writes:

“Many investors may be disappointed by Draghi’s public assertion that the central bank will not buy up unlimited government bonds from the countries in crisis. But that is not surprising. For one thing, it is not urgently necessary. Europe’s biggest worry, Italy, has a couple of weeks before it has to inundate investors with cash. Besides, the markets have been relatively calm recently.”

“And another point: If Draghi had announced a plan to buy up the bonds, then Europe’s leaders, meeting at their crisis summit, would have probably thought that they could yet again put off finding a solution for the euro crisis, because the ECB would take care of things. Unfortunately, Europe’s leaders have proven over the past few months that they only enact necessary reform when they are placed under extreme pressure. That this pressure is now coming from the ECB, and not just the markets, is not a bad thing.”

The business daily Handelsblatt writes:

“Mario Draghi and Angela Merkel are the key figures in the euro debt crisis, and even when it doesn’t look that way from outside, the Italians and the Germans are trying to maintain a tricky balancing act. They must contain the crisis, and at the same time convince the other partners to accept a fiscal union with stricter conditions. To do so, significant pressure has to be maintained on investors…”

“Even if Draghi didn’t want to hear this interpretation yesterday, a game of back and forth between the ECB chief and Merkel and Sarkozy seems to be looming. Together the German chancellor and French president are pushing through a harsh fiscal pact, and then the ECB will help fill in the gaps until the governments agree on treaty changes and all euro countries have voted on them.”

“In the end, there could be a currency union that is much more stable than the current situation. But it is a dangerous game. For the next year or more, Draghi must accept the risk that the currency union could break apart with a loud crack, possibly sparking a global financial crisis that would make the Lehmann Brothers bankruptcy fallout look harmless. This is because there is no guarantee that the politicians can deliver their end of the informal deal.”

• “European Politicians Slam British EU Veto” – Following David Cameron’s veto of EU treaty reform, there is plenty of frustration in Europe over Britain’s stubborn attitude in the battle against the debt crisis. Prominent members of the European Parliament have strongly criticized the British prime minister and sent him a clear message: Europe doesn’t need you.

It is an irony of history — on this very day 20 years ago, the Maastricht Treaty was signed, bringing the European Union into existence. On Dec. 9 and 10, 1991, the 12 leaders of the European Community agreed to the groundbreaking agreement and a historic project was set on its way.

Two decades on, and with the European debt crisis in full flow, the EU is facing its toughest test so far. Now one person stands out as the most divisive figure: David Cameron. Following marathon talks on Thursday night, the British prime minister vetoed a change in the EU treaties as called for by German Chancellor Angela Merkel and French President Nicolas Sarkozy.

Cameron’s use of his veto has provided for much discontent within the European Parliament. “It was a mistake to admit the British into the European Union,” said Alexander Graf Lambsdorff, a prominent German MEP with the business-friendly Free Democrats, and vice chair of ALDE, the liberal block in the European Parliament. The UK must now renegotiate its relationship with the EU, he said. “Either they do it by themselves, or the EU will be founded anew — without Great Britain,” Lambsdorff said. “Switzerland is also a possible role model for the British,” he added, refering to the fiercely independent stance of the Alpine country, which is not an EU member.

There has also been sharp criticism of Cameron’s attitude from the co-chairman of the Greens group in the European Parliament, Franco-German politician Daniel Cohn-Bendit. “Cameron is a coward,” he said. He accused the British prime minister of not wanting to deal with the conflict over the Europe Union within his Conservative Party. Cameron, he said, had “manoeuvred himself into a populist corner” from which he would no longer emerge.

Elmar Brok, a member of Germany’s conservative Christian Democratic Union and foreign policy spokesman for the center-right European People’s Party (EPP), said: “If you’re not willing to stick to the rules, you should keep your mouth shut.”

These are harsh attacks. But despite all the frustration, the message is clear: The European project can not be allowed to collapse because of the UK’s obstinate attitude towards the debt crisis. Cameron’s critics are sending a clear signal to London: If necessary, things can carry on without you. Those critics are clearly hoping that Britain’s decision will come back to haunt it at some point, and that the country will come to realize what a serious mistake it was committing when it turned its back on Europe.

This approach is also apparently being followed at the highest level. The 17 euro-zone states, together with at least six and maybe as many as nine other EU countries, aim to conclude a separate stability treaty in order to defuse the debt crisis. It’s a risky step, because it is not yet clear whether the proposal can easily be implemented legally. But those member states are also sending a signal, namely that they can move forward without the British.

Cameron’s behavior in Brussels has also irritated many MEPs. The British prime minister downright flaunted his veto, or at least so it appears to his critics. “What was on offer was not in Britain’s interest … so I didn’t sign up to it,” Cameron said. A little later, he made it clear that his country would not want to adopt the euro in the future either — he was happy not to be in the Schengen Agreement, and happy not to be in the euro, he said.

Manfred Weber, vice chairman of the European People’s Party, was annoyed about Cameron’s “distancing rhetoric.” But at the same time he believes it was ill-advised from the viewpoint of the prime minister: “The country is primarily damaging itself.” The British must now decide if they want to be in the EU club or not, he says. “The game of always wanting to have a say in the debate while also wrecking every compromise is not acceptable in the long run,” says Weber. “You can’t be a little bit pregnant.”

Reinhard Bütikofer, vice chairman of the Greens/European Free Alliance block in the European Parliament, also sees Britain as facing an historic decision. He would like the British to continue being part of the fold, he said, “but on Europe’s terms, rather than Cameron’s.” It was not, however, currently necessary to exert excessive pressure, let alone make threats, he said, explaining that the prime minister’s veto was a clear “sign of weakness.”

Others were rather more forceful in that respect. Elmar Brok, for example, feels that the UK is one of Europe’s most important partners, “but in a crisis, a partner must above all be loyal and ready to compromise.” The other partners must now marginalize Britain, “so that the country comes to feel its loss of influence,” he said.

Manfred Weber also urged EU member states to demonstrate more self-confidence. “It must be made clear to Great Britain: Either you want the whole package, or you can leave it alone.”

Some believe they already know how to make that happen, namely by taking a clear political stance. “Now,” says Green politician Cohn-Bendit, “we must put pressure on the British and force them, by implementing tough regulations on financial markets, to decide if they want out of the EU or if they want to stay inside.”

• In “The European Union’s New Face,” Roland Nelles writes:

Europe on Friday awoke to a changed world. The European idea as we know it is in the process of dissolving into thin air. The monumental postwar project of a peacefully unified continent where all member states hold hands in friendship collapsed overnight.

The European Union has divided itself in the face of crisis. On the one side is the common currency union, which is following the Franco-German desire to grow together as a way to finally get the euro crisis under control.

On the other side is the United Kingdom, standing petulantly alone, no longer wanting to play.

It is a decisive development — and one that is completely new for Europe. The EU had become used to late-night compromises, last-minute quasi-agreements that take into account the sensitivities of all member states. That form of accord, one based on finding the lowest common denominator, no matter how low or well-hidden it might be, is finished. When it comes to money, friendship is secondary.

One could also formulate it differently: Europe is finally becoming candid. The crisis is forcing EU leaders to finally bid farewell to all those rituals and hypocrisies that have defined Europe in recent years. Isn’t it, after all, true that the British have been the fly in the European soup for quite some time now? They always wanted to be there, to have their say and wield their influence. But when it became time to really engage in Europe by joining the euro, the response was: “No euro please, we are British!”

In myriad endless EU summits past, this contradiction was systematically glossed over with friendly gestures and obligatory goodwill. Not anymore. Great Britain, the birthplace of realpolitik, a country which has always scorned the EU idealism found on the Continent, has now been backed into a corner — and it has been pushed there by exactly those idealists it has long disdained. The question is a simple one: Do you want to remain part of a united Europe or do you not?

The euro crisis has exposed a kind of creative momentum that is in the process of creating something new. A new Europe. It is an entity which Chancellor Angela Merkel calls a “fiscal union.” But in reality, Europe is on the path toward becoming a federal country. Germany and France would lead, as became clear on Thursday night in Brussels. But leaders must also ensure that all are included. Arrogant posturing aimed at appeasing the electorate back home is damaging.

That is true of relations between large and small EU member states. But it is also true of relations with Great Britain. The preferred outcome is clear — of course Great Britain should become part of an integrated euro-Europe. Merkel and French President Nicolas Sarkozy should clearly say so.

Europe, though, can work fine without the British. But what kind of future does Great Britain have without the Continent and without the euro? Will it, in the future, focus exclusively on its alliance with the United States? Will the Commonwealth become a greater priority? What is this small country’s role in a world made up great powers such as China, Russia, Europe and the US?

These are the questions that Britain must now answer. And it doesn’t have much time. If the Brits wait too long, history will simply move on. Should that happen, it would be “bye bye Britain.” Forever. Instead, we should be working toward “welcome back.”

• In “The Birth of a Two-Speed Europe,” Carsten Volkery writes:

Part of the ritual of late-night negotiations in Brussels is that everyone perceives him or herself as the victor afterwards. So there was little surprise when British Prime Minister David Cameron stepped before the cameras on Friday morning and spoke of a “tough but good decision.” He said he had defended Great Britain’s national interests. At the same time, German Chancellor Angela Merkel and French President Nicolas Sarkozy praised the decisions taken on Thursday night and Friday morning as important steps towards stabilizing the euro zone.

But neither side can truly be pleased with the results. European Union Commissioner Günther Oettinger, who is Germany’s representative in the EU executive, conceded this as well, noting it was a “good, second-best solution.” Instead of a legally clean amendment to the Lisbon Treaty that establishes the operating rules for the European Union, a separate treaty will now be forged between 23 EU governments that have agreed to stricter budget oversight. The agreement has been reached between the 17 euro-zone countries. Nine countries that are not part of euro zone also signalled in the summit’s closing statement that they would consult their parliaments about the possibility of joining the pact.

Britain now stands alone in its rejection of the changes. Initially, Hungary had expressed reservations, but it shifted and joined the majority of European countries on Friday. Hungary, Poland, Sweden, Denmark, Bulgaria, Romania, Lithuania, Latvia and the Czech Republic must still consult their parliaments, before it will be certain just how many members the new fiscal union will include.

Questions have already been raised over whether the construct of the new fiscal union can be legally reconciled with the Lisbon Treaty, which defines the governance of the EU and will still remain binding.

More importantly, though, the summit’s outcome will seal the status of a two-speed Europe. Back home, Cameron is already being accused of driving his country into isolation. Unyielding euroskeptics aside, most people in Britain can’t be pleased that their country will now play second fiddle in Brussels. The British leader is likely to come under particularly harsh criticism for abandoning the kind of pragmatism that is so highly valued in his country, instead caving in to anti-EU ideologists within his party — just as other Tories before him have done.

British Foreign Secretary William Hague sought to limit the damage on Friday morning, telling the BBC that Britain would continue to play a major role in foreign and economic policy. Formally, Britain will remain a full-fledged member of the EU — and it will zealously insist on its rights. But Cameron will not be able to prevent his country from increasingly becoming a second-class member. That’s because European economic policy is likely to be determined in the future by the euro zone and its associate members.

The loss of importance in Europe that Britain has now brought upon itself also isn’t in the country’s geopolitical interest. Indeed, its trans-Atlantic partnership with the United States will suffer as a result. In the eyes of politicians in Washington, Britain has been particularly useful because of its ability to assert influence in Brussels.

But Merkel and Sarkozy can’t be pleased with the outcome either. True, they have achieved their aim: The currency union will now be equipped with a balanced budget measure and automatic sanctions. On top of that, they have also succeeded in avoiding the protracted ratification process that revisions to the Lisbon Treaty would have required.

However, Berlin and Paris haven’t heeded the ground rules of diplomacy. They didn’t seek any compromise with the British and instead stuck the political equivalent of a knife right into Cameron’s chest. Were his demands really as “unacceptable” as Sarkozy portrayed them early Friday morning? Or is it illegitimate that a country wants to avoid being overruled when it comes to issues pertaining to one of the main branches of its economy? If Sarkozy’s main intention was to save the financial transaction tax, then he certainly shouldn’t feel victorious, because it is still not going to be implemented in London now.

The German government justified its categorical “no” to any special wishes by warning that it could open up a Pandora’s box, with other EU member states then making additional demands. Memories are still fresh in Berlin of the decision made this summer to increase the funds available to the euro bailout fund, the European Financial Stability Facility (EFSF). The decision threatened to unravel only a few days later as Finland, the Netherlands and Slovakia demanded, one after the other, that additional guarantees be provided.

That argument carries a certain amount of weight, but the rigid position comes at a price. The prospect of a Europe that is drifting apart is not exactly the signal of unity that euro-zone leaders wanted to send at the crunch summit. They can take some comfort in the fact that six non-euro countries are planning to join the pact and that two others, Sweden and the Czech Republic, may still follow suit, subject to parliamentary approval. That would leave the United Kingdom and Hungary as the sole refuseniks.

The pact between the 23 states also represents a shift of power in their favor at the EU level. The “economic government” made of these countries’ leaders can make decisions via euro summits and would not need to seek the approval of the European Parliament. Merkel and Sarkozy will likely view that fact as an additional benefit of this approach.

From the perspective of the financial markets, however, the dispute over the treaty amendment is a mere sideshow. They are only interested in the question of how the firepower of the euro backstop fund can be boosted and what role the European Central Bank will play in combating the crisis.

On this front, European leaders have made little progress. The start date of the permanent rescue fund, the European Stability Mechanism (ESM), has been moved forward from 2013 to mid-2012. But leaders rejected a proposal to combine the temporary rescue fund EFSF and the ESM in order to increase the volume of funds available, as well as the idea of a banking license for the ESM. Nevertheless, the heads of state and government committed themselves to reviewing the total lending capacity of the EFSF and ESM, currently capped at €500 billion, in March 2012. During the talks on Thursday night and Friday morning, there had been disagreement over whether to lift the cap.

It’s already clear that there will be further conflict within the bloc. Cameron has warned of legal problems with the new pact. There were always dangers, he said, when “agreeing to a treaty within a treaty.” If anyone had been hoping for a quick solution to Europe’s problems, it looks like they will be disappointed.

• In “Questioning the Legality of a Separate Euro Treaty“, Christoph Schult writes:

It was just a few hours before the beginning of the European Union summit in Brussels when German Chancellor Angela Merkel and French President Nicolas Sarkozy finally got the support they needed. If necessary, said Jean-Claude Juncker, head of the Euro Group and prime minister of Luxembourg, the 17 euro-zone countries could agree to changes to EU treaties on their own, without the participation of the other 10 EU members.

Early Friday morning, the significance of Juncker’s move quickly became apparent. British Prime Minister David Cameron indicated that he wasn’t prepared to join EU efforts to significantly alter the Lisbon Treaty in order to increase fiscal unity and strengthen debt and deficit rules by making penalties automatic.

“What was on offer is not in Britain’s interest so I didn’t agree to it,” Cameron said. “We’re never going to join the euro and we’re never going to give up this kind of sovereignty that these countries are having to give up.”

The euro-zone 17 in combination with six other countries quickly began moving forward on their own. But is such a move legal? European Union lawyers have their doubts that the kind of euro-zone fiscal union within the EU would be allowed.

Changes to the EU treaty, after all, must be unanimous. Furthermore, EU officials in Brussels say, because monetary union is regulated extensively in the Lisbon Treaty, reform can only be implemented within the existing legal framework. The legal services experts of the European Commission, the European Central Bank and the European Council, which represents the member states in Brussels, are all in agreement. A treaty concluded only by the 17 euro-zone governments would be illegal, they say.

Individual countries could only issue a “political declaration of intent,” in which they determined, for example, how they would decide on the use of sanctions against budget offenders. But such a declaration would have no legally binding character and, as officials point out, could also be revoked following the election of a new government. This is principally a reference to France, where the Socialist presidential candidate François Hollande has already announced that he would not accept any incursions into national sovereignty.

Shortly before the summit, many European leaders were pushing for a quick rescue plan. At the convention of the European People’s Party (EPP) in Marseilles, the conservative group which currently constitutes the largest faction in the European Parliament, smaller countries also spoke out in favor of a strong Europe with strict rules.

“We are in the middle of a storm, which is why the hands of the leaders cannot be shaking,” said Hungarian Prime Minister Viktor Orban. His Romanian counterpart Traian Basescu said that his country fervently hopes that the euro will be saved. “Every decision in Brussels will affect the daily lives of all Romanians,” Basescu said. He called for an agreement among all 27 EU countries and not just the 17 euro countries.

Dutch Prime Minister Mark Rutte also announced his resistance to a euro treaty for only the 17 nations of the monetary union. “It is of great importance … that we keep countries such as the UK, Sweden and the Baltic countries and Poland in. We also have to make sure that we keep the union of 27 together,” Rutte said upon his arrival in Brussels.

European Council President Herman Van Rompuy agrees. He too feels that it would be difficult to legally enshrine the new supervisory powers of the EU institutions if they were approved only by the 17 euro-zone countries.

Centre for European Reform

• In “EU summit: Enough to save the euro?“,” Simon Tilford writes:

The UK’s decision to marginalise itself by vetoing a new EU-27 treaty has dominated the post-summit media coverage. And for good reason – it could prove a big step towards UK withdrawal from the EU. However, the bigger question is whether the agreement reached at the summit will do anything to address the fundamentals of the euro crisis.

Unfortunately, the news on this point is just as bad. This summit will go down as yet another missed opportunity. Despite rhetoric to the contrary, the summit suggests that policy-makers have not yet taken on board the seriousness of the eurozone’s predicament. There was no agreement to close any of the institutional gaps in the eurozone, such as the lack of either a real fiscal union or a pan-eurozone backstop to the banking sector. There was no agreement to boost the firepower of the European Financial Stability Fund (EFSF), while the move to beef up the IMF’s finances fall far short of what is needed. As a result, there is little to prevent a further deepening of the crisis.

What has been agreed falls far short of a ‘fiscal union’. There will be no joint debt issuance, no shared budget, and no mechanism to transfer monies between the participating countries. Essentially, the agreement hard-wires pro-cyclical fiscal austerity into the institutional framework of the eurozone, with no quid quo pro in terms of a commitment to move gradually to debt mutualisation. It is little more than a revamped version of the EU’s existing Stability and Growth Pact. The market reaction has been less than euphoric – bond spreads have jumped sharply. Italian yields have risen back to close to 7 per cent.

This is unsurprising. Fiscal austerity alone will not solve the crisis. Indeed it has become part of the crisis. Such a strategy has already failed in Greece and Portugal and it threatens to make a bad situation in Spain and Italy even worse. What the eurozone needs is economic growth, and this agreement further worsens the outlook for that. The eurozone economy is facing a deep recession, and mounting signs of a credit crunch across much of its southern flank, as capital flight gains momentum. To adhere doggedly to a crisis strategy centred on the single pillar of fiscal austerity risks causing a further erosion of investor confidence.

But does the agreement at least give the Germans cover to back more substantive solutions to the crisis, such as debt mutualisation? So far, there is little indication of any thaw in the German opposition to debt mutualisation (‘eurobonds’), but a tough fiscal regime could potentially make it easier for the German government to accept, in principle, the case for eurobonds. The problem is that the longer the crisis goes on, the riskier eurobonds become for Germany economically and hence politically: the bigger the crisis, the larger the impact debt mutualisation would have on Germany’s own borrowing costs, and the larger the obstacles the government would face in trying to sell eurobonds to voters.

And does the agreement provide sufficient cover for the ECB to step up its buying of struggling eurozone countries’ government bonds?

The ECB has stepped up support for the eurozone’s battered banking sector. For example, the ECB has increased liquidity support for the banks: among other measures, banks will be able to borrow from the ECB on longer maturities. But there is no indication that the ECB will dramatically increase its bond buying or set targets for member-states’ borrowing costs. There was apparently strong opposition on the ECB’s governing council to the provision of additional support to the banking sector. For the time being it seems unlikely that the governing council will sanction the scale of bond-buying needed to dispel fears of default. The bank certainly could not intervene indefinitely, anyway. ECB action would need to be accompanied by institutional reforms, in particular a move to mutualise debt. In the absence of that, large-scale bond buying would quickly erode the ECB’s credibility.

The eurozone appears to be little nearer to striking the ‘grand bargain’ needed to secure the future of the single currency. Germany continues to believe that investor confidence can be won back through the imposition of legal regulations. But stability cannot be achieved through regulation. At a time when the European economy faces an acute risk of depression, the eurozone still has no economic growth strategy. Eurozone governments also failed to agree to set aside more money for the EFSF and all the indications are that the ECB will remain cautious.

So the summit has failed to bring any short-term reassurance to investors and done nothing to close any of the eurozone’s institutional gaps. It has set the scene for a new and even more dangerous phase of the crisis. Politics might still come to rescue of the single currency, but the omens are not good.

• In “Britain on the edge of Europe,” Charles Grant writes:

The outcome of the Brussels summit on December 8th and 9th is a disaster for the UK and also threatens the integrity of the single market. For more than 50 years, a fundamental principle of Britain’s foreign policy has been to be present when EU bodies take decisions, so that it can influence the outcome. David Cameron, the prime minister, has abandoned that policy. Britain will not take part in a new fiscal compact that most other EU countries will join.

France and Germany have persuaded the other eurozone countries that treaty changes are needed to enshrine stricter budget policies and closer economic policy co-ordination. The new procedures would apply only to countries in the euro. Most member-states wanted to enact those reforms through amending the existing EU treaties. That would ensure that countries in the euro, and those outside, would be subject to a single set of rules and institutions.

But Britain blocked that deal, pushing France, Germany and most other member-states to proceed with a new treaty, to sit alongside the EU treaties. The new treaty may face difficulties: the Irish may hold a referendum on it and could easily vote no. But Paris and Berlin are determined to press ahead with the fiscal compact and if the Irish vote against it they are likely to find themselves excluded.

Cameron blocked a treaty for all 27 because he could not obtain agreement on a protocol to protect the City of London. This protocol demanded a switch from majority voting to unanimous decision-making on a number of issues that matter for the City, including the extension of the powers of EU regulatory authorities, and rules that prevent national governments from imposing stricter requirements on bank capital.

Cameron was right to seek to protect the interests of Britain’s hugely important financial services industry. Most financial regulations are decided by qualified majority vote, and there is a risk that new EU rules could damage this vital national interest. However, Britain has never yet been outvoted on a significant piece of EU financial regulation. If Cameron had been prepared to compromise on his demands, he might have been able to secure a deal.

But France’s president, Nicolas Sarkozy, was annoyed by Britain’s demand for special treatment, and had no desire to do the City favours; indeed, after the summit he said that a lack of regulation of financial markets was responsible for many of the current problems. Other heads of government found Britain’s demands and the way it presented them unreasonable. They also complained about the lack of British diplomacy: the British Treasury took its time to draft the protocol and did not present it to the Council of Ministers legal service until the day before the summit. The British made no effort to sell the protocol to most of the member-states. In short, there was little goodwill towards Cameron.

As far as I can gather, the UK government’s position stiffened between the morning of December 7th and the evening of December 8th. At the start of that period, Cameron seemed to want a deal, as his article in The Times indicated. But then loud rumblings from Conservative eurosceptic backbenchers – and calls for a referendum from two cabinet ministers and London Mayor Boris Johnson – made the Conservative leadership reluctant to show flexibility. Some senior Conservatives worried that if the government accepted a new EU treaty it would struggle to push it through Parliament. Many Tories would have rebelled and it probably would have passed – if at all – only with Labour’s support, thereby humiliating Cameron. That is why some senior figures in the government did not want a deal in Brussels.

But Britain’s so-called veto – which has not stopped anything from happening – seems likely to damage its interests. For a start, the government failed to achieve any sort of protection for the City. The countries taking part in the new arrangements (between 23 and 26 member-states are likely to adopt them) will meet regularly and discuss economic policy. They are also bound to talk about single market issues such as financial regulation. In theory, single market matters will still be settled by all 27. In practice, the countries in the new club are likely to caucus and pre-determine the results of EU votes on single market rules – whether they concern the City or other matters.

In the new arrangements, the Commission and the European Court of Justice will almost certainly play a diminished role. That is because France and Germany, the dominant countries in the fiscal compact, are hostile to the Commission and favour a more ‘inter-governmental’ Europe. To the extent that these institutions are weaker, they will be less able to do their job of defending the single market and ensuring that all member-states are treated fairly.

Some British eurosceptics seem to imagine that the new club will not be allowed to use EU institutions without Britain’s permission. There are likely to be complicated law-suits, but if most member-states want the Commission and the Court to play a role in the fiscal compact, these institutions will play a role. The institutions will have to try and reconcile two sets of rules and procedures, which will make it harder for them to do their job of policing the market.

What if the eurozone countries want to harmonise banking regulations, which they may need to do in order to ensure the success of the euro? Britain would not support a centralised system of banking regulation, but could easily be outvoted. Rules on banking regulation, like other single market issues, will remain subject to qualified majority voting among the 27. But if Britain wants to win votes, it will need allies.

I can never recall Britain being so friendless in the EU. Countries that might be sympathetic to the UK, such as Denmark, the Netherlands, Poland and Sweden, have grown impatient with the Cameron government. They have always wanted Britain to be influential in Europe, to balance the power of France and Germany. They would have much preferred all 27 countries to stay together. Britain’s self-exclusion has left them disappointed. Many of the smaller member-states are unhappy: when EU institutions weaken, they are more likely to be pushed around by France and Germany.

Since it joined the EU in 1973, Britain’s impact on the EU has been positive in many ways. It has pushed for legislation to bring about the single market. Together with France, it invented EU defence policy and it has contributed a lot to EU external policies, in areas such as the Balkans, Iran and climate diplomacy. It has helped to maintain the EU’s Atlanticist orientation. It has encouraged the EU to look outwards and see globalisation more as an opportunity than as a threat. With Britain’s voice diminished, the EU is less likely to deepen the single market and more likely to be inward-looking.

It is conceivable that a different British government could seek to reverse this disastrous opt-out. More likely, Britain will continue on a path towards isolation, perhaps even leaving the EU itself.