Crisis in Greece leaves EU future in balance, warns Angela Merkel

The German chancellor, Angela Merkel, tells the country’s parliament that the future of Europe is at stake over Greece’s financial crisis Photograph: Michael Sohn/AP

Europe was threatened with its gravest modern crisis tonight as Germany warned that the EU’s future was on the line in the Greek emergency.

The spiralling tension over Greece‘s ballooning debts and Europe’s first ever bailout of a country in the single currency has exposed fundamental questions about the EU and Germany’s pivotal role as the union’s biggest power.

In Berlin, where Chancellor Angela Merkel faces a groundswell of hostility to sending the Greeks a €22bn lifeline next week, leaders issued stark warnings about the prospects for the EU and insisted on a punitive new regime for the 16 euro countries if the monetary union is to survive.

The leaders of the eurozone’s 16 nations are to assemble for an emergency summit on the Greek crisis in Brussels on Friday evening, with the mood bleak and the stakes high.

“Europe is at a crossroads,” Merkel declared to the German parliament in Berlin today. “This is about no more and no less than the future of Europe and about Germany’s future in Europe.”

Her sombre tone was echoed by the opposition leader and former foreign minister, Frank-Walter Steinmeier, who said the Greek crisis presented the EU with its biggest challenge since the union was created in the 1950s.

The strongest warnings in months of wrangling in Berlin over how to respond to the first risk of national insolvency in Europe’s single currency zone coincided with an explosion of anger in Greece, where households face years of hardship and declining living standards to meet the terms of the bailout from the eurozone and the International Monetary Fund.

There is strong scepticism in the financial markets over whether the bailout will work and over whether the Papandreou government in Athens will be able to deliver its side of the bargain. Should Greece renege on the terms of a €110bn rescue package, agreed at the weekend, it will lose the funds, say European leaders. It would then face financial collapse, defaulting on some €300bn of sovereign debt. There are also increasing warnings of the debt crisis cascading across the Mediterranean into Portugal and Spain. The tensions within the eurozone could see the single currency unravelling.

Merkel comes to Friday evening’s summit in Brussels armed with stiff new prescriptions to defend the euro and ringfence the Greek crisis. She is also engaged in a simmering power struggle with the European Commission over who should police the new regime – Brussels or the member states.

After months of prevarication and deep reluctance to come to Greece’s rescue, she committed passionately to the bailout today, portraying herself as the saviour of the euro and Berlin as indispensable to a solution. “Europe is looking to Germany today,” she declared. “Without us or against us, there will be no decision.”

In return for leading the rescue attempt, Germany is demanding new rules and penalties for the 16 countries taking part in the single currency.

The 16 could not keep muddling along turning a blind eye to the fudges and fiddling of fiscal miscreants, she argued. Instead, persistent breakers of the euro rules could be “suspended” from the single currency, fiscal sinners would have to forfeit their voting rights in EU councils, and would lose EU subsidies.

If there was no alternative, a country using the euro should be allowed to go insolvent, meaning hundreds of billions in losses for international banks and other creditors. This was seen as a warning to the markets betting on a country’s sovereign debt default, while confident that investors would recoup their money from European and German bailouts.

As a last resort, Wolfgang Schaeuble, the German finance minister, is proposing that a persistent rule-breaker be expelled from the eurozone, though not from the EU. Olli Rehn, the European commissioner for monetary affairs, is to unveil proposals next week for new rules that would give Brussels the power to scrutinise national budgets, withhold EU funds, and impose penalties in the eurozone.

The Germans support and oppose some of Rehn’s measures, but are against vesting the powers in the European Commission. Merkel’s proposals are radical and would require renegotiating the Lisbon Treaty defining how the EU works. Few leaders in Europe have the stomach for that.

The stark warnings came only three days after 15 EU countries and the IMF agreed to rescue the stricken Greek economy. As Germany, Europe’s economic powerhouse, is liable for more than 22 of the eurozone’s €80bn. But the bailout is unpopular with Germans and costly politically for a chancellor facing a crucial regional election in the large state of North-Rhine Westphalia this weekend.

But parliament in Berlin is expected to give a green light for the bailout so the funds can be released before 19 May, when Greece has to redeem €8.5bn of debt.