Germany and France are exploring radical methods of securing deeper and more rapid fiscal integration among euro zone countries, aware that getting broad backing for the necessary treaty changes may not be possible, officials say.
Germany's original plan was to try to secure agreement among all 27 EU countries for a limited treaty change by the end of 2012, making it possible to impose much tighter budget controls over the 17 euro zone countries -- a way of shoring up the region's defenses against the debt crisis.
But in meetings with EU leaders in recent weeks, it has become clear to both German Chancellor Angela Merkel and French President Nicolas Sarkozy that it may not be possible to get all 27 countries on board, EU sources say.
Even if that were possible, it could take a year or more to secure the changes while market attacks on Italy, Spain and now France suggest bold measures are needed within weeks.
As a result, senior French and German civil servants have been exploring other ways of achieving the goal, one being an agreement among just the euro zone countries.
"The goal is for the member states of the common currency to create their own Stability Union and to concentrate on that," German Finance Minister Wolfgang Schaeuble told ARD television on Sunday.
Another option being explored is a separate agreement outside the EU treaty that could involve a core of around 8-10 euro zone countries, officials say.
An even more pressing decision faces euro zone finance ministers when they meet on Tuesday.
Detailed operational rules for the euro zone's bailout fund, the European Financial Stability Facility (EFSF), are ready for approval, documents obtained by Reuters showed.
The approval of the rules will clear the way for the 440 billion euro facility to attract cash from private and public investors to its co-investment funds in coming weeks, which, depending on interest, could multiply the EFSF's resources.
With Germany rigidly opposed to the idea of the ECB providing liquidity to the EFSF or acting as a lender of last resort, the euro zone needs a way of quickly calming markets, where yields on Spanish, Italian and French government benchmark bonds have all been pushed to euro lifetime highs.
Policymakers hope progress towards tougher fiscal rules will also assuage investors. Schaeuble said a Stability Union could be a decisive step to winning more confidence from the markets.
"That means that every euro zone member has to do its homework on its budget discipline. We want to ensure that through treaty changes," he said.
Reuters exclusively reported on Nov. 9 that French and German officials were discussing plans for a radical overhaul of the European Union to establish a more fiscally integrated and possibly smaller euro zone.
"The Germans have made up their minds. They want treaty change and they are doing everything they can to push for it as rapidly as possible," one senior EU official involved in the negotiations told Reuters. "Senior German officials are on the phone at all hours of the day to every European capital."
While Germany and France are convinced that moving toward fiscal union - which could pave the way for jointly issued euro zone bonds and may provide more leeway for the European Central Bank to act forcefully - is the only way to get on top of the debt crisis, some other euro zone countries are unable or unwilling to move so rapidly towards that goal.
Not only Greece, Ireland and Portugal, which are receiving EU/IMF aid, but also Italy and Spain and some east European countries such as Slovakia, would either find it difficult under current economic conditions to meet the budget constraints Germany wants, or simply do not agree with the aim.
Consequently, the French and German negotiators are exploring at least two models for more rapid integration among a limited number of euro zone countries, with the possibility of folding that agreement into the EU treaty at a later stage.
One is based on the Pruem Convention of 2005, also known as Schengen III, a treaty signed among 7 countries outside the EU treaty but which was open to any member state to join and was later acceded to by 5 more EU states plus Norway.
Another option would be to have a purely Franco-German mini-agreement along the lines of the Elysee treaty of 1963 that other euro zone countries could also sign up to, officials say.
"The options are being actively discussed as we speak and things are moving very, very quickly," a European Commission official briefed on the discussions told Reuters.
One source said the aim was to have the outline of an agreement set out before Dec. 9, when EU leaders will meet for their final summit of the year in Brussels.
Sarkozy, who has made two speeches in the past two weeks highlighting the need for more rapid fiscal integration in the euro zone, and has acknowledged that it may be inevitable that a 'two-speed Europe' emerges, is due to make another keynote address on Dec. 1 which could provide a platform for laying out in more detail the ideas that he and Merkel are developing.
A senior German government official denied there were any secret Franco-German negotiations, but emphasised that both countries saw the need for treaty change as pressing and were exploring how to achieve that in the best way possible.
"Germany and France are continuing to focus on proposals for a limited treaty change that can be presented at the EU summit in December," the official said, emphasising that there was a need to act quickly to get changes in place.
The ECB has bought the bonds of euro zone strugglers in intermittent fashion when they have reached crisis point. Economists say it has to act much more radically to turn the market tide but the central bank, and Germany, has opposed any such move. Commitments to binding fiscal rules by euro zone governments may be the cover it needs to change tack.
"If this bond run is not stopped it will really endanger the stability of the European and even the global financial system. Bold action by the ECB is definitely needed," Peter Bofinger, one of the five "wise men" who formally advise the German government on the economy, told Irish state broadcaster RTE.
Reuters reported a similar possibility on Friday, with euro zone officials saying that if much tighter fiscal integration could be achieved among euro zone states, it would give the ECB more room to manoeuvre and buy sovereign bonds.
While EU officials are clear about the determination of France and Germany to push for more rapid euro zone integration, some caution that the idea of doing so with fewer than 17 countries via a sideline agreement may be more about applying pressure on the remainder to act.
By threatening that some countries could be left behind if they don't sign up to deeper integration, it may be impossible for a country to say no, fearing that doing so could leave it even more exposed to market pressures.
"Some of this is just part of the posturing you hear -- it's pressure from Germany to go for treaty change as quickly as possible," the official involved in the negotiations said.
"To some extent you have to see these ideas as part of the bargaining chips that are being put on the table."
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