Greece bailout: What's the future of the euro?

Faced with the gravest crisis yet in the history of the decade-old euro, European Union leaders met in Brussels last week to thrash out how to protect the currency’s Achilles’ heel: Greece.

By summit’s end, the 15 eurozone countries (other than Greece) and the International Monetary Fund (IMF) had agreed to a package of loans that may head off a crisis for now. While no figures were announced formally for the Greece bailout, officials said the amount available could total €22 billion ($29 billion). The money would be made available if Greece ends up facing default. The promise of availability will now, the country's involved hope, act as a buffer for market confidence in Greece and make it easier for the country to raise money on the open market.

Despite the agreement, Greece’s debt, far larger than eurozone rules allow, is likely to remain a source of anxiety for the currency for some time.

Why are the woes of the Greek economy so linked to the health of the euro?

Greece has long lived beyond its means while concealing a ballooning deficit. Greece must refinance much of its €300 billion ($419 billion) debt by the end of May or risk default. A default would blow a hole in the credibility of the eurozone. “If we created the euro, we cannot let a country fall that is in the eurozone. Otherwise, there was no point in creating the euro,” warned French President Nicolas Sarkozy.

But the rules of the euro prohibit bailouts of the kind Greece may yet need. EU leaders sought last week to craft a bailout by another name that would circumvent those rules through provision of bilateral loans.

Why has the possibility of an intervention by the IMF been raised?

The eurozone’s dominant member, Germany, had stubbornly refused to endorse a Greek rescue package, insisting that Greece must get its own house in order through austerity measures. Berlin, seeking to limit its own responsibility for Greece’s problems, has argued for IMF involvement despite misgivings by France.

Germany’s chancellor, Angela Merkel, said March 15 that European governments should only help Greece when it is “at the brink of bankruptcy, which it luckily is not at the moment.” If aid was required, “the IMF is a topic we need to look at,” she insisted.

IMF involvement may be positive for Greece, since it’s likely to lend at lower interest rates than the European powers. Despite Greek promises to cut government spending to reduce a budget deficit of 12.7 percent of gross domestic product (GDP), a backlash from Greek unions has raised questions over follow-through.

Why is Germany so reluctant to lead a bailout of Greece?

After years of saving, increasing productivity, and debt control, Germany is leery of helping a country that has done exactly the opposite. Almost one-third of Germans believe Greece should be asked to leave the eurozone, while some 40 percent think Europe’s biggest economy would be better off outside the single currency, according to a Financial Times poll.

Some experts believe that Germany has been looking for a way of kicking states such as Greece and Spain out of the 16-member euro club to create a new bloc more in tune with the values of the old deutsche mark.

Capturing the German mood, Chancellor Merkel said, “countries which cheat in their public finances should help themselves,” in an interview carried by Der Spiegel.

How much danger is there of ‘contagion’ from Greece spreading elsewhere in Europe?

Much hinges on how Greece weathers the next few weeks, but the biggest worry is over the other debt-laden “PIIGS,” an acronym that includes Portugal, Italy, Ireland, and Spain.

Their circumstances vary. Stringent austerity measures unveiled by Ireland have convinced many economists about its prospects for returning to growth, despite concerns that spending cuts and tax hikes will suck demand out of the economy and prolong Ireland’s slump.

The eurozone’s fourth-largest economy, Spain, is another matter. Spanish unemployment is more than 20 percent, and the government deficit is around 9 percent of GDP. Spain is expected to take on more debt with bond issues.

“Spain is going to pose a big problem. It is in all sorts of trouble about how it will increase growth. It lost a great deal of competitiveness, and costs have gone up,” says Simon Tilford, an economist at the Centre for European Reform, a think tank in London. “Any economy regarded as having poor growth prospects is going to struggle to borrow at affordable levels.”

Economists fear a Greek-style crisis in Spain would have a more devastating impact on the euro, while it remains unclear if other states would step in to help.

What are likely to be the long-term consequences of the crisis?

Some predict a growing clamor – particularly from Paris and Berlin – for more mutual scrutiny of member states’ budgets and perhaps more oversight by the European Commission, the EU’s executive entity. That would further alienate “euroskeptic” opponents of deeper European integration, such as British Conservatives hoping to take over the reins in Britain, currently one of 11 EU states that have not adopted the euro.

Inevitably, voices warning that the breakup of the euro is over the horizon are growing louder.

Also gaining ground in some quarters is the case for the creation of a new currency bloc with Germany at its core and strong, mainly northern states, floating around it.

“This would restore balance in the [European Monetary Union, or eurozone], but with pretty disastrous consequences for citizens of the southern European countries, since they are likely to go through massive devaluations first and then have to sort out fiscal policy anyway,” said Robert Hancké, a monetary union and European expert at the London School of Economics. “In addition, financial markets are likely to pick off weak countries during that process.”