Italy at Breaking Point, Merkel Calls for 'New Europe'

Italian borrowing costs reached breaking point on Wednesday after Prime Minister Silvio Berlusconi's insistence on elections instead of an interim government opened the way to prolonged instability and delays to economic reform.

Getty Images German Chancellor Angela Merkel

Italian 10-year bond yields shot above the 7 percent level that is widely deemed unsustainable, reflecting investors' concerns that they may not get their money back and prompting German Chancellor Angela Merkel to issue a call to arms.

Merkel said Europe's plight was now so "unpleasant'' that deep structural reforms were needed quickly, warning the rest of the world would not wait.

"That will mean more Europe, not less Europe,'' she told a conference in Berlin.

She called for changes in EU treaties after French President Nicolas Sarkozy advocated a two-speed Europe in which euro zone countries accelerate and deepen integration while an expanding group outside the currency bloc stayed more loosely connected — a signal that some members may have to quit the euro if the entire structure is not to crumble.

Merkel Calls for 'Breakthrough to a New Europe'

"It is time for a breakthrough to a new Europe,'' Merkel said. "A community that says, regardless of what happens in the rest of the world, that it can never again change its ground rules, that community simply can't survive.''

A senior EU official said changing the make-up of the euro zone has been discussed on an "intellectual" level but had not moved to operational or technical discussions, while a French government source said there was no such project in the works.

Such steps are also opposed by many EU countries, whose backing would be needed for any adjustments to the bloc's treaties, making them anything but a done deal.

"This will unravel everything our forebears have painstakingly built up and repudiate all that they stood for in the past sixty years," one EU diplomat told Reuters. "This is not about a two-speed Europe, we already have that. This will redraw the map geopolitically and give rise to new tensions. It could truly be the end of Europe as we know it."

Nonetheless, the Franco-German motor has generally been the driving force in steps forward for European integration.

A Taboo Broken at G20

To an extent the taboo on a country leaving the 17-member currency bloc was already broken at the G20 summit in Cannes last week, when German Chancellor Angela Merkel and Sarkozy both effectively said that Greece might have to drop out if the euro zone's long-term stability was to be maintained.

Italy has replaced Greece at the center of the euro zone debt crisis and is on the cusp of requiring a bailout that Europe cannot afford to give.

But the latest discussions among European officials point to a more fundamental re-evaluation of the 12-year-old currency project — including which countries and what policies are needed to keep it strong and stable for the next decade and beyond — before Europe's debt crisis manages to break it apart.

In large part the aim is to reshape the currency bloc along the lines it was originally intended; strong, economically integrated countries sharing a currency, before nations such as Greece managed to get in.

"France and Germany have had intense consultations on this issue over the last months, at all levels," a senior EU official in Brussels told Reuters, speaking on condition of anonymity because of the sensitivity of the discussions.

"We need to move very cautiously, but the truth is that we need to establish exactly the list of those who don't want to be part of the club and those who simply cannot be part.

"In doing this exercise, we will be very serious on the criteria that will be used as a benchmark to integrate and share our economic policies."