The EU Summit is under way, the 19th such confab since the debt crisis began. This may not be Europe's absolute last chance to save the euro, but they're getting very close to the edge.
"They can kick [the can] down the road a little further...but they cannot kick it very much further," says Lee Buchheit, a partner at Cleary Gottlieb Stein & Hamilton, where he specializes in sovereign debt restructuring. "They have obvious problems with Italy and Spain now. Those are enormous economies - if they lose market access altogether and have to turn to an official sector bailout in the same way as Greece, Portugal and Ireland have done, that is a major undertaking for the EU and IMF."
As EU leaders gathered in Brussels, Spanish bond yields jumped back above the critical 7% level. Italy's Mario Monti has pushed for the new European Stability Mechanism (ESM) to buy Spanish and Italian debt to push yields down in the near term. But Buchheit believes that's a bad strategy, noting it's been tried for Greece, Portugal and Ireland previously and failed each time.
"Of course the market understands this is an effort by the official sector to manipulate rates just before an auction," he says.
Furthermore, ESM-backed bonds would be senior to existing bonds, a critical distinction for debt holders, who might be less eager to own Spanish or Italian debt if it's not first in line in the capital structure.
With Germany's Angela Merkel dousing hopes for a euro bond solution to the crisis -- "not as long as I'm alive," she said earlier in the week -- the best-case scenario for the EU summit is some progress on unified bank regulation and supervision, Buchheit says.
"If they move ahead, yields come down and the crisis begins to wane," he says. "If they fail do to that, there's a real chance one or both of these countries [Italy and Spain] could lose market access."
The goal here is to break the link between the sovereigns and the banking sector. Ironically, Buchheit says the extremely close links between the French government and its banks could stymie progress toward an EU banking union.
For the record, Buchheit does not believe the rest of Europe can tolerate the "savagery" of the Greek debt restructuring, which he helped negotiate. That's because since the 53.5% haircut on Greek debt, foreigners have largely fled the Spanish and Italian debt markets; so relief for the sovereigns would mean acute stress on local banks and pension funds, requiring yet more bailouts.