Europe Moves Toward Compromise

The European Union is gradually moving to a compromise on the Single Resolution Mechanism. It is intended to be agreed up before the end of the year to give the European Parliament time to debate and eventually accept it prior to the run-up to the May elections.

The key issues revolve around the role of the European Commission and the national governments. Although when it comes to fiscal policy, Germany has led the effort for countries, especially those in need of assistance, to surrender greater sovereignty to the EC, in terms of the Single Resolution Mechanism, it has championed national authorities over the collective.

EU Financial Services Commissioner Barnier proposal had given key powers to the EC. Several countries, led by Germany wantedto give the final decision to trigger a bank resolution to the Council of the European Union, where national governments are represented, as opposed to Brussels. Ironically, the German proposal was opposed on the very ground often cited by German officials, efficiency. The Council of the European Union is seen as less efficient, facing legal, procedural and timing constraints, according to Lithuania which serves as the bloc's rotating president (we previously had mistakenly said that it was held by Latvia).

Barnier's plan appears to be supported by a majority of countries and the ECB. However, a compromise with Germany remains likely. The basis for such a compromise may be preserving a key role for national authorities when addressing smaller banks that do not fall under the ECB's supervision. This may satisfy a German concern about the landesbanks, which have been the recipients of a large amount of government assistance.

There may also be another classic form of compromise: postpone the more difficult issues. Contentious issues like the establishment of a backstop can be decided next year. Germany may be able to compromise on form provided that it feel confident that ultimately controls the purse strings. European finance ministers meeting next week, December 10.

Another key issue for European officials is Ukraine. Last week, Georgia and Moldova signed on for closer ties with the EU that keep them on track for ascension. Ukraine, which had signed a similar agreement in March 2012. Ukraine was expected to sign a new agreement, tightening the ties to Europe. At the last minute Ukraine's Yanukovych bowed to pressure from Russia and refrained, suggesting his European hosts renew talks that include Russia, which is highly unlikely. Seeing what was happening, European officials refrained from sweetening the pot.

Russia reportedly used both the carrot and the stick to dissuade Ukraine from leaving its orbit. Russia had tried pressuring Moldova as well with little success. It relations with Georgia have been strained since before the 2008 war. Armenia had bowed to Russian pressure and ended negotiations a couple of months ago.

Ukraine is in a difficult economic situation. It needs assistance, but has rebuffed IMF conditionality, which would include austerity and increases in public utility rates. Yanukovych's negotiations with the EU seem to indicate that there were no firm commitment for assistance by Russia. European officials are probably as surprised as Yanukovych to the public outcry that has resulted. The public demonstrations are the largest since the 2004 Orange Revolution and look to have the strength to topple the government. Credit default swaps are trading at elevated levels (near 3-year highs just below 1100 from 926 at the beginning of last week).