Can the eurozone be saved?

The massive problem of eurozone sovereign debt is once again dominating headlines, with many commentators more interested in the spat between Cameron and Sarkozy than the prospects of a definitive agreement on a bailout.

Markets today seem reasonably confident that an agreement will be reached on Wednesday, at the next summit of eurozone leaders. This is despite the weekend summit proving to be inconclusive.

The outline of a new deal for the eurozone appears to include measures which will force banks to raise their levels of capitalisation. Holding more capital should protect the banks against future losses, assuming Greece (and others) default on their debts.

Banks across Europe look set to have to raise a further £87bn of new capital. This money would come from commercial investors, but also governments and the EU bailout fund. Further generosity towards the banks is in short supply and such a requirement could test the resolve of some governments.

By providing money to the banks, rather than directly to indebted governments, there is at least the possibility of a return in the future, assuming governments take a shareholding in the banks in return for additional capital support.

There will also be more money provided for the European Financial Stability Facility (EFSF). It remains unclear what form this will take, but it should result in the EFSF having the power to more robustly address sovereign debt issues in the eurozone.

Finally, those with Greek debt are set to be asked to accept a ‘haircut’. It was initially proposed that investors would have to accept losses of 21% on Greek debts, but this figure now looks set to be higher.

The outcome of the next eurozone summit on Wednesday is far from certain. For now at least the markets seem to be fairly calm in anticipation of the decisions to be made later this week by the 27 EU governments.

Photo credit: Flickr/European Parliament