BRUSSELS -- EU leaders have made headway in recapitalizing Europe's banks, but difficult discussions lie ahead on issues such as Greece's mountain of debt and how to stop the current financial crisis from sinking Italy and Spain.
Meetings in various constellations have dominated the European Union in recent days, but few specific results have been achieved.
Many crunch decisions face finance ministers when they gather on October 25 and heads of government when they descend once more on the EU capital a day later.
French President Nicolas Sarkozy told reporters that the EU had been forced to take extra time to find common ground because of the complexity of the issues involved.
"They are complex because they require an enormous amount of money," he said. "They are complex because they involve other partners, especially private partners with whom we have to strike an agreement on a voluntary basis."
It looks likely that European banks will be forced to find an estimated 108 billion euros ($150 billion) of fresh capital over the next six to nine months to strengthen the banking system.
EU Aid A Last Resort
The banks must first look to raise capital from the markets before turning to bailouts from national governments with the EU ready to step in as a last resort.
The EU president, Herman Van Rompuy, indicated that a definite decision on the bank recapitalization would be made next week:
"Everybody agrees [that] we need a coordinated scheme to recapitalize banks and to improve their funding," he said. "Yesterday [October 22], the finance ministers made good progress on the issue. They will be able to finalize the matter next Wednesday [October 26]."
Countries with wobbly banks, such as Italy, Spain, and Portugal, have been reluctant to accept such a recapitalization before a deal is struck to beef up the EU's 440 billion-euro bailout fund, the European Financial Stability Facility (EFSF).
They also want an agreement to be reached on the size of the losses Greece's private creditors should suffer for holding the country's debt.
These three issues, which the leaders discussed at length over the weekend, are interlinked. The size of the recapitalization is dependent on the size of the losses, referred to as "haircuts," which governments will force banks to take for owning Greek debt.
Warding Off Financial Contagion
The ability of governments to support banks will, on the other hand, also depend on the strength of the EFSF.
Lots of work remains on the issue of Greece's debt, which is currently near 200 percent of its GDP, and on ring-fencing other countries in the eurozone to protect them from financial contagion by boosting the EFSF.
The EU's member states are considering a writedown of Greek debt of 60 percent, which would reduce Athens' public debt to about 110 percent of GDP.
The International Monetary Fund (IMF) is believed to favor even more painful losses for the banks involved.
The Frankfurt-based European Central Bank (ECB), however, has taken the opposite view, arguing that markets would react with panic to such heavy losses. It is instead pushing for more austerity measures in Greece.
France, whose banks are heavily exposed to the Greek crisis, also remain cool on the idea; but it is clear that such banks' losses will be significantly higher than the 21 percent agreed with private investors at an EU summit in July.
'Not Just A Greek Crisis'
Greek Prime Minister George Papandreou would welcome debt relief after another week of big demonstrations in the Greek capital.
Speaking ahead of the summit, he claimed his country had done a lot and that it was time for the EU to take more responsibility.
"It's been proven now that the crisis is not a Greek crisis," Papandreou said. "The crisis is a European crisis. So now is the time that we as Europeans need to act decisively and effectively."
The biggest issue to be resolved on October 26 is how to beef up the EFSF. The EFSF can raise cheap cash for bailouts because of the triple-A credit rating of France and Germany.
The fund in its current form is big enough to support smaller eurozone countries such as Greece, Ireland, and Portugal, but not larger economies like Italy and Spain.
Adding new, direct money to the fund would probably force a downgrade of French debt, risking a collapse of the entire EFSF rescue system.
German lawmakers have also underlined that Germany's guarantees for the EFSF would not go beyond their current 211 billion euros.
Considerable financial engineering is therefore necessary. For a long time, France had wanted the EFSF to turn into a bank and for it to have access to funding from the European Central Bank.
But German Chancellor Angela Merkel said that proposal was dropped because it contravened the Lisbon Treaty.
"The finance ministers yesterday [October 22] agreed on two models," Merkel said. "None of them involve the ECB. This is because the EU treaty does not allow it. Both models must now be explored further."
Speaking after the European leaders held emergency talks, British Prime Minister David Cameron said that changes to the European Union's treaty had been discussed, and that it would be looked into further at December's European Council.
Nonetheless, he did stress that any, treaty change "can only happen if it is agreed by all 27 member states."
One of the two possible measures agreed that could be implemented without any treaty amendments is to turn the fund into an insurance scheme in which the EFSF could guarantee up to 20 percent of fresh debt issues -- a move that could increase the firepower of the facility by 1 trillion euros.
The second option would be to create a "special-purpose vehicle," outside but connected to the EFSF, which could draw in capital from private investors such as Chinese sovereign wealth funds.