EU Crippled in Crisis as 27 Governments Confront Single Economy

By Steve Scherer

Oct. 10 (Bloomberg) -- It took the European Union almost three decades to agree on what could legitimately be called chocolate. That doesn't bode well for its handling of the worst financial crisis in its history.

The club of 27 governments has been relegated to bit-player status in the drama as global central banks coordinate rate cuts and individual European nations move unilaterally to fortify their own banking systems.

EU finance ministers this week rejected the idea of a region-wide bailout fund. Beyond impromptu joint efforts to aid Fortis, Dexia SA and other cross-border European banks, the EU is essentially stymied by its requirement that major decisions be unanimous and by its lack of a central financial regulator.

As banks' need for capital increases and individual country finances become stretched, Europe's piecemeal approach may prove inadequate.

``There's a need not only to coordinate a response to the crisis on a European level, but also on a global level,'' said Juergen Michels, a Citigroup Inc. economist in London. ``While the EU is one functioning financial market, it's made of up different nation states that don't always work together.''

So far, EU leaders' unified response has been limited mostly to meetings. France's Nicolas Sarkozy, the EU's current president, has struggled to forge a common approach.

He sparked resentment simply by calling a meeting limited to the four biggest EU countries in Paris on Oct. 4, excluding 23 other partners. That session flopped when German Chancellor Angela Merkel rejected a French proposal for a U.S.-model bailout fund.

Zapatero, Merkel

Now more meetings are planned: Sarkozy sees Spanish Prime Minister Jose Luis Rodriguez Zapatero today in Paris and gets together tomorrow with Merkel. On Oct. 15 and 16, all 27 national leaders gather in Brussels, the EU's headquarters.

The imperiled banking system will be ``at the core'' of the summit, European Commission President Jose Barroso said on Oct. 8. He called on Europe to remove the ``mismatch between a continental-scale market and national systems of supervision'' of banks because ``the gravity of the financial crisis is clear to all.''

The International Monetary Fund said on Oct. 7 that the world's major banks may need $675 billion in fresh capital over the next several years to recover from the credit crunch.

Small Countries

That won't be easy if banks in small European countries need more cash than their governments have, said Francesco Giavazzi, the Italian Treasury's former director general.

``The danger is that in some countries the banks are very big with respect to the size of the country,'' said Giavazzi, now an economics professor at Milan's Bocconi University. ``The EU needs to create a fund that can intervene in these cases.''

So far, however, countries are going their separate ways. U.K. Prime Minister Gordon Brown has called on EU nations to follow his plan to buy stakes in their own country's banks. Spain is emulating the U.S. strategy of purchasing lenders' souring assets.

France offered verbal assurances that it won't let institutions fail. Italy has pledged funds to prevent the collapse of any struggling bank, with Finance Minister Giulio Tremonti declining to say yesterday how much money it's willing to spend.

Deposit Guarantees

Even the EU finance ministers' decision to stave off bank runs by boosting minimum deposit guarantees was fraught with discord. Larger countries sought a 100,000-euro minimum guarantee. Smaller countries won in setting a 50,000-euro level.

Gilles Moec, an economist at Bank of America in London, said the EU may eventually be forced to act as a bloc if a member country doesn't have the means to stave off a meltdown.

``Europe is so intertwined from a trade and industrial point of view that the EU would have to do something,'' Moec said.

Economic interests long have driven the development of the EU. It started out as the six-country European Coal and Steel Community in 1951.

When the bloc expanded from six to nine countries in 1973, a pitched battle began over chocolate. Purists, mainly in Belgium, argued that only candy with unadulterated cocoa butter should be allowed to be called chocolate. That prompted objections from the U.K. and other defenders of non-cocoa fats. The purists finally caved in 2000.

Bigger Than U.S.

The EU is now a single market with almost 500 million inhabitants and a gross domestic product of $16.8 trillion last year, about 31 percent of the world's nominal GDP, according to the World Bank. U.S. GDP was $13.8 trillion in the period.

The integrated continental economy has no tariffs. Capital, labor and services move freely from one country to another. With a few exceptions, any EU citizen can live and work in any of the member countries.

Times of economic difficulty have accelerated integration, as when Germany's post-unification recession led to a Europe- wide economic malaise that destroyed the bloc's exchange-rate management system in the early 1990s. EU leaders agreed in December 1991 to pursue a common currency and the euro became a reality in 1999.

The speculative run on exchange rates ``convinced some reluctant governments who are now in the euro zone that they would be better off with a single currency,'' Moec said.

Now the EU is stuck in a holding pattern. It has twice tried to streamline decision-making processes and create a more powerful office of EU president to replace the six-month rotating presidency now held by Sarkozy. Both attempts were scuttled: the French and Dutch rejected a constitution in 2004, Ireland repudiated the 2007 Lisbon Treaty.

With fallout from the financial crisis looming, the EU needs to move beyond past failures, said analyst Michael Saunders, chief Western European economist at Citigroup Inc.

``Both the European economy and the European financial system are more vulnerable than many realize,'' Saunders said.

To contact the reporters on this story: Steve Scherer in Rome at scherer@bloomberg.net