PARIS/BERLIN (Reuters) - British Prime Minister David Cameron threatened on Friday to obstruct a Franco-German drive for swift change to the European Union's treaty, a sign of the difficulty leaders will face transforming Europe to save the euro.

France and Germany are reaching a consensus that euro zone economies need to be bound more closely together if the single currency is to survive, which could mean changing the EU treaty to give Brussels powers to punish spendthrift euro states.

Austrian Chancellor Werner Faymann said there was a danger that the euro zone bloc would split up unless it implemented new rules and stuck to them.

"When we are not able to set up and keep to more conditions and ground rules, then many countries in the euro zone will no longer be able to pay the very high rates for sovereign bonds," he told the daily Krone.

"The next effect will be that you won't find anyone to buy them. Then the euro zone has to break up because of this.... it is a very real danger."

After talks with French President Nicolas Sarkozy, Cameron said he was not convinced treaty change was needed to reinforce the single currency zone, which Britain has refused to join. If the 27-nation bloc's charter were reopened at a crunch summit on December 9, he would have his own agenda.

The British leader said euro zone institutions such as the European Central Bank needed to "get behind the currency" to convince markets that it had the required firepower, and member states had to make their economies more competitive.

"Neither of those things require treaty change, but if there is treaty change I will make sure that we further protect and enhance Britain's interests," he told reporters. There was no immediate comment from Sarkozy's office.

Cameron faces pressure from Eurosceptics in his Conservative party to loosen Britain's ties with the EU and secure guarantees that any move towards fiscal union on the continent does not harm the interests of the City of London financial centre.

Sarkozy tried to persuade him to allow stricter budget discipline procedures for the euro zone without insisting on returning powers over social and judicial affairs from Brussels to London or seeking a veto right over EU financial regulation.

German Chancellor Angela Merkel called earlier for rapid but limited treaty change to remedy what she sees as the root causes of Europe's raging sovereign debt crisis, warning that Europeans faced a "marathon" to regain lost credibility.

Outlining a long-term approach to tighter fiscal integration in the single currency area, with tougher budget discipline, she dismissed quick fixes such as massive U.S.-style money printing by the European Central Bank or issuing joint euro zone bonds.

"Resolving the sovereign debt crisis is a process, and this process will take years," Merkel told parliament, vowing to defend the euro, which she said was stronger than Germany's former deutschemark.

The chancellor travels to Paris on Monday to outline joint proposals with Sarkozy for treaty changes to create coercive powers to reject national budgets and impose automatic sanctions on serial deficit sinners. U.S. Treasury Secretary Timothy Geithner will meet key leaders and central bankers December 6-8 in Europe the EU summit.

Next Friday's gathering is seen by some as make-or-break for the euro zone after a string of half-measures agreed too late by European leaders over nearly two years have failed to stop bond market contagion spreading from Greece to Ireland, Portugal and now Italy and Spain.

Sources close to Merkel said she was willing to see the ECB step up buying of troubled euro zone countries' bonds, alongside smart use of the bloc's rescue fund, as a bridging measure until budget controls took hold, but she did not see it as a lasting solution.

Her speech set the agenda for a week of intense diplomacy to try to frame a new political deal to restore market confidence and give the ECB grounds to act more decisively to defend the euro and support teetering banks.

The European Central Bank has been reluctant to commit to buying bonds in large quantities like the "quantitative easing" carried out by the U.S. Federal Reserve and the Bank of England.

ECB executive board member Juergen Stark said a solution was urgent but added finding it was the job of politicians.

"The lingering and expanding sovereign debt crisis must be halted to avoid macroeconomic and financial disaster, in the euro area and beyond," he said in a speech in New York. "No country is immune any more to a loss of market confidence in its public finances."

BREAKUP SCENARIOS

World stocks and European bonds continued to gain on hopes that euro zone leaders may be moving closer to a comprehensive solution to the debt crisis.

But in a sign that business leaders are beginning to doubt whether the currency will survive, the chief executive of Austrian energy group OMV said dozens of top European executives were working on post-euro contingency plans.

"I was recently in Paris with some other representatives of large companies and we discussed this question," Gerhard Roiss told reporters on Friday when asked if he had plans for a euro breakup. About half the 45 firms present had confirmed they were working on such scenarios.

ECB President Mario Draghi sent a crucial signal to markets on Thursday, opening the door to more aggressive action to help fight the euro zone's sovereign debt and banking crisis if governments adopted a new "fiscal compact."

Sarkozy embraced German calls for a new treaty tightening fiscal discipline in a policy speech on Thursday, but unlike Merkel he made no mention of greater powers for the European Commission and European Court of Justice.

Instead, the French leader, struggling to win re-election next May, called for an "intergovernmental" Europe in which the presidents and prime ministers of euro zone countries would be the ultimate arbiters over national budgets.

His socialist opponents denounced him for advocating an "austerity treaty" dictated by Germany. Merkel went out of her way to rebut such accusations, telling the Bundestag it was "misleading" to suggest Germans were trying to dominate Europe.

The president of the European Parliament, Jerzy Buzek of Poland, said treaty change could be "dangerous" because Europe's citizens were unlikely to warm to the idea.

MARKETS RECOVER

EU diplomats said Paris and Berlin hoped to find agreement among all 27 member states for limited treaty amendments rather than having to take the more divisive route of drafting a separate blueprint for the 17 euro zone states or fewer.

German officials praised the conservative Sarkozy's courage in telling voters that France would have to overhaul its social model and cut public spending.

On the markets, German 10-year Bunds outperformed safe-haven U.S. Treasuries and British gilts as investors saw prospects of an EU summit deal and ECB action to ease funding for cash-starved banks and to counter a looming recession in Europe.

Italy's 10-year bond yield was down to 6.65 percent, well below the danger levels close to 8 percent they hit last week, which analysts said could make it impossible for Rome to refinance its debt next year. Spain's 10-year borrowing cost tumbled to 5.68 percent.

Sentiment has turned more positive since the world's major central banks took emergency joint action on Wednesday to provide cheaper dollar funding for European banks, a move which suggested they feared a funding crunch was imminent.

A key measure of dollar funding stress felt by euro zone banks, the three-month euro/dollar cross currency basis swap, has narrowed by 30 basis points since the coordinated central bank move to around minus 130 bps.

(Additional reporting by Noah Barkin in Berlin, Kirsten Donovan in London, Emmanuel Jarry in Toulon, Michael Martina in Beijing; Writing by Paul Taylor; Editing by Janet McBride, Mike Peacock and Peter Graff)

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Following German Chancellor Angela Merkel and Sarkozy’s press conference on December 5th, most of the focus has been on the treaty changes proposed, including not-quite-automatic sanctions for profligate countries that miss their budget targets and the implementation of golden rules in country constitutions. The most important announcement went largely under the radar—that the European Stability Mechanism (ESM) will not force losses on private bondholders. This transforms the ESM from a vehicle that might have actually helped (though many details were still needed) to yet another insufficient bailout mechanism that is poised to sink even the core EZ countries.

The ESM as it was originally announced in 2010 was different from the existing bailout fund, the European Financial Stability Facility (EFSF), in two important ways. First and foremost, under the ESM a debt sustainability analysis would be conducted on all EZ countries. Those countries deemed to have liquidity problems would receive bailouts, and those deemed insolvent would have bail-ins in accordance with IMF guidelines (whatever that really means. As @alanbeattie regularly remarks the IMF does not have guidelines for this sort of thing). The ESM also differed from the EFSF in that the former is to consist of around €700bn in paid in capital and callable capital (for a lending ceiling of €500bn, see ESM treaty, p19) whereas the latter is not pre-funded and relies solely on country guarantees.

Chancellor Merkel has backed down on forced private sector involvement (PSI) in cases in which a country is deemed insolvent. This does not necessarily mean that voluntary private sector involvement cannot take place, though it might. Merkel and Sarkozy stressed repeatedly during their press conference that the PSI in Greece should be considered a unique event and would not happen anywhere else in the eurozone. In any case, it does mean that involuntary haircuts will not be imposed on bondholders.

Without the capacity to force bail-ins, the ESM is now just a bail out facility. As such, it is slightly more powerful than the EFSF because it consists of real and not funny money. But there is a fatal flaw that both bailout facilities have in common: they both involve eurozone countries guaranteeing one another’s debt in one big, vicious circle. The latest greatest out of Brussels involves the ESM being used in addition to the EFSF, rather than the ESM taking over for the EFSF as was originally planned. This would be an absolute, sure-fire way to get S&P to make good on its threat to downgrade all 15 eurozone countries it put on negative watch earlier this week, including Germany.

Even if there are no forced bail-ins through the ESM, debt restructurings seem inevitable in the eurozone somewhere down the line. None of the solutions to the crisis mooted so far come anywhere close to providing a growth strategy for the region, without which the fiscal dynamic in the weaker countries will simply get worse. Delaying a debt restructuring may seem preferable now, but it will only amount to more pain later on. This is not only because overall debt levels will be higher, but also because the more debt held by the official sector, the bigger the haircut imposed on private bondholders.

Merkel and Sarkozy’s decision to back down from forced PSI in the ESM is a huge mistake, but it might never be implemented. The junior coalition party in Germany, the FDP, has a referendum on the ESM that is due to end on December 13th. If enough party members participate in the referendum to render the referendum valid (not a foregone conclusion) and if PSI is removed from the ESM, I think the FDP would reject the mechanism. This means that Merkel would lose her chancellor’s majority when the ESM is put to a vote in the Bundestag in Q1 2012, which could ring the death knell for the German coalition. Merkel may decide removing forced PSI from the ESM isn’t worth the trouble it could cause her directly.Following German Chancellor Angela Merkel and Sarkozy’s press conference on December 5th, most of the focus has been on the treaty changes proposed, including not-quite-automatic sanctions for profligate countries that miss their budget targets and the implementation of golden rules in country constitutions. The most important announcement went largely under the radar—that the European Stability Mechanism (ESM) will not force losses on private bondholders. This transforms the ESM from a vehicle that might have actually helped (though many details were still needed) to yet another insufficient bailout mechanism that is poised to sink even the core EZ countries.

The ESM as it was originally announced in 2010 was different from the existing bailout fund, the European Financial Stability Facility (EFSF), in two important ways. First and foremost, under the ESM a debt sustainability analysis would be conducted on all EZ countries. Those countries deemed to have liquidity problems would receive bailouts, and those deemed insolvent would have bail-ins in accordance with IMF guidelines (whatever that really means. As @alanbeattie regularly remarks the IMF does not have guidelines for this sort of thing). The ESM also differed from the EFSF in that the former is to consist of around €700bn in paid in capital and callable capital (for a lending ceiling of €500bn, see ESM treaty, p19) whereas the latter is not pre-funded and relies solely on country guarantees.

Chancellor Merkel has backed down on forced private sector involvement (PSI) in cases in which a country is deemed insolvent. This does not necessarily mean that voluntary private sector involvement cannot take place, though it might. Merkel and Sarkozy stressed repeatedly during their press conference that the PSI in Greece should be considered a unique event and would not happen anywhere else in the eurozone. In any case, it does mean that involuntary haircuts will not be imposed on bondholders.

Without the capacity to force bail-ins, the ESM is now just a bail out facility. As such, it is slightly more powerful than the EFSF because it consists of real and not funny money. But there is a fatal flaw that both bailout facilities have in common: they both involve eurozone countries guaranteeing one another’s debt in one big, vicious circle. The latest greatest out of Brussels involves the ESM being used in addition to the EFSF, rather than the ESM taking over for the EFSF as was originally planned. This would be an absolute, sure-fire way to get S&P to make good on its threat to downgrade all 15 eurozone countries it put on negative watch earlier this week, including Germany.

Even if there are no forced bail-ins through the ESM, debt restructurings seem inevitable in the eurozone somewhere down the line. None of the solutions to the crisis mooted so far come anywhere close to providing a growth strategy for the region, without which the fiscal dynamic in the weaker countries will simply get worse. Delaying a debt restructuring may seem preferable now, but it will only amount to more pain later on. This is not only because overall debt levels will be higher, but also because the more debt held by the official sector, the bigger the haircut imposed on private bondholders.

Merkel and Sarkozy’s decision to back down from forced PSI in the ESM is a huge mistake, but it might never be implemented. The junior coalition party in Germany, the FDP, has a referendum on the ESM that is due to end on December 13th. If enough party members participate in the referendum to render the referendum valid (not a foregone conclusion) and if PSI is removed from the ESM, I think the FDP would reject the mechanism. This means that Merkel would lose her chancellor’s majority when the ESM is put to a vote in the Bundestag in Q1 2012, which could ring the death knell for the German coalition. Merkel may decide removing forced PSI from the ESM isn’t worth the trouble it could cause her directly.Following German Chancellor Angela Merkel and Sarkozy’s press conference on December 5th, most of the focus has been on the treaty changes proposed, including not-quite-automatic sanctions for profligate countries that miss their budget targets and the implementation of golden rules in country constitutions. The most important announcement went largely under the radar—that the European Stability Mechanism (ESM) will not force losses on private bondholders. This transforms the ESM from a vehicle that might have actually helped (though many details were still needed) to yet another insufficient bailout mechanism that is poised to sink even the core EZ countries.

The ESM as it was originally announced in 2010 was different from the existing bailout fund, the European Financial Stability Facility (EFSF), in two important ways. First and foremost, under the ESM a debt sustainability analysis would be conducted on all EZ countries. Those countries deemed to have liquidity problems would receive bailouts, and those deemed insolvent would have bail-ins in accordance with IMF guidelines (whatever that really means. As @alanbeattie regularly remarks the IMF does not have guidelines for this sort of thing). The ESM also differed from the EFSF in that the former is to consist of around €700bn in paid in capital and callable capital (for a lending ceiling of €500bn, see ESM treaty, p19) whereas the latter is not pre-funded and relies solely on country guarantees.

Chancellor Merkel has backed down on forced private sector involvement (PSI) in cases in which a country is deemed insolvent. This does not necessarily mean that voluntary private sector involvement cannot take place, though it might. Merkel and Sarkozy stressed repeatedly during their press conference that the PSI in Greece should be considered a unique event and would not happen anywhere else in the eurozone. In any case, it does mean that involuntary haircuts will not be imposed on bondholders.

Without the capacity to force bail-ins, the ESM is now just a bail out facility. As such, it is slightly more powerful than the EFSF because it consists of real and not funny money. But there is a fatal flaw that both bailout facilities have in common: they both involve eurozone countries guaranteeing one another’s debt in one big, vicious circle. The latest greatest out of Brussels involves the ESM being used in addition to the EFSF, rather than the ESM taking over for the EFSF as was originally planned. This would be an absolute, sure-fire way to get S&P to make good on its threat to downgrade all 15 eurozone countries it put on negative watch earlier this week, including Germany.

Even if there are no forced bail-ins through the ESM, debt restructurings seem inevitable in the eurozone somewhere down the line. None of the solutions to the crisis mooted so far come anywhere close to providing a growth strategy for the region, without which the fiscal dynamic in the weaker countries will simply get worse. Delaying a debt restructuring may seem preferable now, but it will only amount to more pain later on. This is not only because overall debt levels will be higher, but also because the more debt held by the official sector, the bigger the haircut imposed on private bondholders.

Merkel and Sarkozy’s decision to back down from forced PSI in the ESM is a huge mistake, but it might never be implemented. The junior coalition party in Germany, the FDP, has a referendum on the ESM that is due to end on December 13th. If enough party members participate in the referendum to render the referendum valid (not a foregone conclusion) and if PSI is removed from the ESM, I think the FDP would reject the mechanism. This means that Merkel would lose her chancellor’s majority when the ESM is put to a vote in the Bundestag in Q1 2012, which could ring the death knell for the German coalition. Merkel may decide removing forced PSI from the ESM isn’t worth the trouble it could cause her directly.

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One answer is that people say all kinds of things in campaigns and one learns to take them with a pinch of salt. Another is that she has links to people with foreign policy experience. Another is that her role is to implement his policy, not make policy, and for that the personal connections she does have in abundance may be very useful. Another, even more cynical than the first, is that the Secretary of State spends a lot of time outside the country. As someone who campaigned for Obama, I'm hoping that answers two and three are the right ones..

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MaximB

I think the US should spend more time looking for alternative sources for fuel and leave the other countries alone, period. Don't get involved at all..

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MaximB