As Italy and Spain come under real market pressure, the long-run survival of the Euro appears to be coming down to a single important question: Will Germany, Europe's powerhouse that alone has the financial wherewithal to potentially prop up the European periphery, do whatever it takes to save the Euro? While Euro optimists believe that Germany will have little alternative but to agree to Eurobonds and to European-wide bank deposit insurance, mounting evidence suggests that considerations of Germany's own creditworthiness will inhibit the country from agreeing to continually bankroll the Euro project.
Perhaps the most conclusive evidence that Germany is not about to write a blank check for the European periphery has been the consistent response of the German Chancellor, Angela Merkel, to the European debt crisis over the past two years. At each stage of the crisis, she has only rather grudgingly agreed to IMF-EU bailout packages for Greece, Ireland, and Portugal. And in each of these cases, the bailout packages have proven to be barely sufficient to defuse the crisis at hand for more than a month or two.
More importantly, Mrs. Merkel has consistently insisted on conditions for each of the IMF-EU bailout packages. In each case, the recipient country has had to commit to IMF-EU imposed fiscal austerity, allowing Merkel to assure the German electorate that repeated bailouts were to be avoided. The imposed austerity measures are meant to correct the country's underlying public finance imbalances through a policy of draconian public spending cuts and tax hikes. Merkel did so despite the fact that within the Euro straitjacket those conditions have considerably deepened the economic recessions in the periphery and given rise to serious political resistance in the affected countries against further austerity measures.
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