Europe Economy

Greek Crisis Averted for Now But Euro Still in Danger

The 110 billion euros ($144 billion) rescue package from the European Union and the International Monetary Fund removes Greece's dependency on markets to raise funds in the short term.

Greek communist protesters draped banners on the Acropolis. May 4, 2010.
Manolis Kostidis

It is also giving the euro zone time to consider how best to address a number of structural imbalances and long-term lending issues of Greece and others like Portugal, Spain and Ireland.

But despite yields on Greek debt falling sharply, investors reckon that there are still stumbling blocks that could slow down the deal.

The first major hurdles for this rescue package are political.

With Greek communists taking to the streets of Athens and even unfurling banners on the Acropolis as part of strikes that are expected to bring much of the country to a standstill, it remains unclear whether the Greek government can sell huge austerity measures demanded by the IMF to voters.

The second major hurdle will be convincing German lawmakers the rescue package should be passed.

Both German houses are expected to vote on Germany's 22.4 billion share of the bailout and the government is expected to make major concessions to get it signed off. This horse trading could have huge implications for the future of the euro zone.

Chapter 11-Style Bankruptcy for States

German chancellor Angela Merkel has told German media that she will press for an international law that would allow insolvency proceedings to be filed against states.

Merkel was speaking ahead of a meeting of her finance minister with Germany's top financial players including Deutsche Bank boss Joseph Ackermann.

"Banks would not come out of this unscathed," Merkel warned in an interview with ARD.

"The market needs evidence that new rules will be implemented," Thanos Papasavvas, head of currency research at Investec Asset Management, said.

But, he added, there remain huge uncertainty that rules like Chapter 11-style bankruptcy for European states will be put into practice.

Germany will approve the Greek bailout, Roland Koch, Prime Minister of the Government of the State of Hesse and a leading ally of Angela Merkel told CNBC on Monday.

"My feeling is that everyone can be pretty sure that at the end of the day, the necessary legislation will be made. I am sure we can have a final decision. I think it will be a broad majority in both houses," Koch said.

Contagion or Not?

Whatever happens in Berlin this week, the key question for investors remains whether the problems facing Greece will spread to other euro zone members like Spain and Portugal.

This will not happen, because Greece's example has made it clear to governments in Lisbon and Madrid that they must get their houses in order before the market forces them to, according to Papasavvas.

Protest Banners on Greece's Acropolis
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Protest Banners on Greece's Acropolis

"I see no risk of contagion. Policy makers will now be more proactive in dealing with deficits," he said.

Not everyone agrees with this view.

"The problem is people are skeptical. Its buy the rumor, sell the fact. A lot of questions remain open, like what about Portugal," Marc Chandler, chief currency strategist at Brown Brothers Harriman, told CNBC.com.

Yields, however, are lower across Portugal, Ireland, Greece and Spain compared with last week on Wednesday, when the yield on the 2-year Greek sovereign bond hit an eye-watering 26 percent.

European Fiscal Union

Talk is rife among policy makers in Brussels about what the crisis means for the European project, as the 60th anniversary of Robert Schumann laying the foundation of Europe as we know it today approaches.

"Completing the European project" is code for fiscal integration. Ever since it was formed, critics have argued the European monetary union could not succeed without a common tax policy.

Debtor Nations

Unlike the United States, the euro zone is a currency union without the ability to raise taxes and distribute spending at a federal level. The UK never signed up to the euro in the belief that it would ultimately lose sovereignty over tax policy.

Papasavvas says it must now be asked whether the European project can succeed without a mechanism to redistribute and raise taxes across the euro zone.

Doing so would be political suicide for many politicians, with Angela Merkel likely to face electoral defeat if she attempted to sell to German voters the idea of a permanent transfer of German tax receipts to spend on neighbors to the south.