Scant weeks ago, European officials were eagerly proclaiming – for about the fifth time in the past two years – that the worst of their crippling financial crisis was over. Greece was in possession of its second bailout, after financial institutions reluctantly took a shearing on their Greek bonds. The European Central Bank rode to the rescue of the crumbling banking system with a €1-trillion injection of cheap capital. And the politicians managed to reach a deal to toughen fiscal discipline across the European Union.
"Today, the problem is solved," French President Nicolas Sarkozy crowed. His former finance minister and current IMF chief Christine Lagarde gushed that "economic spring is in the air." And EU commissioner Olli Rehn confidently stated that "the risk of financial explosion is behind us."
But the reality on the ground soon shattered their illusions. The ailing euro-zone countries have continued to deteriorate as their economies shrink and their fiscal woes deepen. Bond markets still shun debt issued by anyone but Germany. Equity investors pulled more money out of European funds last week than at any time in the past eight months. Battered Spain is sliding toward a possible bailout that would essentially clean out the EU's rescue cupboard. And questions are again surfacing about whether the euro can weather this mess more or less intact.
The key is whether an unhappy marriage with German ground rules makes more sense politically, economically and financially than a bitter and costly divorce.
Financial Times columnist Martin Wolf put the chances of the current monetary union's survival at 50-50 in a speech to a Toronto business audience on Thursday and added that much depends on a complete remaking of the euro zone. He's not betting either way. But we'll still put him just inside the optimists' camp. In a recent column, he wrote that the "most likely outcome – though far from a certainty – is compromise between Germanic ideas and a messy European reality. The support for countries in difficulty will grow. German inflation will rise and its external surpluses fall. Adjustment will occur. The marriage will be far too miserable. But it can endure."
Some other euro watchers are equally torn, although the ranks of the bears, once populated only by diehard euro-skeptics, have grown dramatically. Even the IMF is now acknowledging the possibility of a breakup. In its latest world economic survey, the IMF notes flaws in the euro's design and the potential risk of a "disorderly default and exit by a euro area member."
That fits the growing sentiments of some mainstream economy shops. "What I see happening is Greece exiting the euro zone and Portugal at a minimum defaulting," says Edward Harrison of Global Macro Advisors in Washington.
Here's how some other voices rate on the spectrum of euro-zone fear.
Nouriel Roubini, economist
A mainstay of any bear squad, Dr. Doom argues that a euro breakup would be far better than the lousy union posited by Mr. Wolf. Like most analysts on both sides, he sees Greece leaving, and agrees with a growing number of economists that a smaller core group of wealthier European countries will opt to retain the euro. Which actually makes him less pessimistic than much of the blogosphere.
Constantin Gurdgiev, lecturer in finance at Trinity College, Dublin
The euro remains unsustainable in the next five years, and "will require an exit by Greece and, possibly, Portugal at the very least to allow for structural reforms to proceed and to unwind ECB [liquidity]measures." The euro's longer-term future depends on those major reforms, "including change in the ECB mandate, political federalization and fiscal harmonization beyond the current fiscal compact."
Satyajit Das, global risk consultant
"The euro was a political, rather than economic, project. The politics will dictate that it survives in an amended form. I would think the most likely outcome in a five- to seven-year scale is: A hard-core euro will exist," led by Germany and other stronger members. "There might be a euro-B or a reversion to individual currencies for the others."
John Calverley, Toronto-based head of macroeconomic research with Standard Chartered Bank
"I think the euro will survive. On this side of the Atlantic, a lot of people think it will collapse somehow, that the euro itself will disappear. And in the UK, a lot of people think that. You go to continental Europe, and they don't believe that. ... The political commitment to this is very strong. The problem is how do they get from this vague monetary union to a full fiscal and political union. They're on that track, but it's a gradual process."
Jens Larsen, chief European economist with RBC Capital Markets in London
"I am very optimistic that the euro will survive, but I am pretty sure the European policy makers will continue to try to make survival as painful as possible."
Olli Rehn, EU economic and monetary affairs commissioner
What a surprise! The eurocrat responsible for the single currency is so bullish that he thinks it will benefit from the current crisis – presumably on the old coach's theory that what doesn't kill you makes you stronger. On Friday, he declared that "my main
message to our global partners is that the euro area is delivering on its comprehensive crisis response."
The bottom line is that politics will continue to steer the euro's future, with Germany firmly in the driver's seat. No one has gained more from the common currency; and the Germans have too much to lose if they allow it to collapse. Which is why Chancellor Angela Merkel changed from a policy of no bailouts for Greece to asking where we sign the cheques. And as long as the Germans keep signing and the ECB keeps shoring up the financial system, the euro zone will muddle through, albeit a little smaller.