European financial authorities appear to be shifting away from bailing out troubled sovereign lenders and toward bailing out banks in healthier countries.
Over the weekend, The Times of London reported that European leaders were considering a "radical plan" to prevent a European credit crunch.
The plan is said to involve backstopping certain debt issued by banks.
Sounding a similar note, International Monetary Fund head Christine Lagarde warned on Saturday that "urgent recapitalization" was needed for Europe’s banking industry.
No one really knows what this will mean. The Times story, as everyone notes, doesn't cite any sources. Lagarde's remarks could just be an observation about the weakness of Europe's banks rather than a foreshadowing of a policy.
But if you stitch these stories together, you wind up with something that looks a lot like TARP. The government's of the healthier European banks could inject new capital into the banks, while the most extremely pressured banks could also receive backstops for their debt (just as happened in the U.S.)
This seems to indicate a turn away from recent policy of attempting to provide relief to the most debt-troubled European countries, like Greece, Spain, Portugal and Italy.
The efforts to avoid default on sovereign debt has largely been driven not by concern for the countries themselves. Indeed, often the rescue packages have come with austerity requirements that are borderline punitive.
Instead, the efforts have been aimed at a backdoor bailout of the banks, which hold a lot of the sovereign debt. If a country the size of Italy were to default, it would likely bring down a number of banks.
But the sovereign debt fixes haven't worked. And lately calls have been made for the sovereign debt of individual troubled countries to be swapped for super-sovereign "Eurobonds," which would put the stronger Europeans directly on the hook for the debt of the weaker countries. The stronger nations, Germany in particular, are unlikely to accept this without some sort of "fiscal union" that would undermine national sovereignty of the weaker countries and fundamentally change the terms of the European Union.
So perhaps the European financial authorities are abandoning the backdoor in favor of the front door: bailing out the banks directly.
This could save European banks while letting the weaker countries default, which would hurt the non-bailed out holders of the defaulted debt.
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