By Robin Emmott
BRUSSELS (Reuters) - Financial market pressure on the euro zone eased a little this week as Italy's borrowing costs fell and bank shares stabilized. But the bloc risks fresh market attacks, perhaps as soon as in the next few weeks, as it tries to implement promised steps to address its debt crisis.
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As euro zone officials struggle to finalize details of an agreement struck by their leaders at a July 21 summit -- a deal which was intended to draw a line under the crisis -- many investors are already demanding more radical solutions.
In what has become a pattern in the 18-month-old crisis, leaders' decisions have taken so long to implement that by the time they come into force, they appear too little, too late to convince the markets.
The July 21 deal promised to make the euro zone bailout fund, the European Financial Stability Facility, more flexible by allowing it to buy bonds in the secondary market and lend to troubled states pre-emptively, among other measures.
It also contained a plan for private holders of Greek bonds to contribute to rescuing the country, by taking part in a voluntary debt swap that would save a projected 37 billion euros.
But it could be several weeks before the changes to the EFSF are approved by national parliaments in the euro zone -- Germany's Bundestag will only consider it in late September -- and there are signs that Greece is having trouble persuading enough investors to sign up to the debt swap.
Meanwhile, a dispute over collateral for governments making emergency loans to Greece threatens to delay or conceivably even shatter the entire deal.
"There is an extreme amount of noise out there and it is possible that these pressures could mount as early as September. What if the July 21 decisions don't get ratified by the national parliaments?"
The dispute focuses on whether only Finland will receive collateral -- Austria, the Netherlands, Slovakia and others are now also keen to have similar protection -- and how much will be granted in what form. The European Commission has warned too many calls for collateral would make the deal unworkable.
Failure to compromise could mean Finland dropping out of a second bailout package for Greece. This would not necessarily doom the bailout -- the countries demanding collateral account for only a small fraction of the bailout funds to be provided -- but it would undermine cohesion in the euro zone and could therefore alarm markets.
A third area of concern is how much the International Monetary Fund will contribute to the second bailout of Greece, which envisages 109 billion euros of fresh official funding.
The IMF agreed last year to contribute about a third of the first bailout, which totaled 110 billion euros, but it is unclear if the Fund's emerging economy stakeholders are willing to continue shoveling large amounts of aid into a region which does not seem able to cope effectively with the crisis.
When the first Greek bailout was announced in May last year, the IMF quickly pledged its support. This time, it has not said specifically how much aid it will provide; Brazilian and Indian directors of the IMF have warned the Fund's management against pouring excessive sums of money into Europe.
Such concerns were evident this week in trading of Greek bonds. Although many financial market levels in the euro zone stabilized or improved, Greece's two-year government bond yield, which reflects fears that the country may suffer a full-scale default in the next two years, soared to 46.6 percent from 37.7 percent a week earlier.
Ultimately, the euro zone may well muddle through in implementing its latest crisis package, as it has with past packages. Finnish officials on Friday held out the possibility of compromising on the collateral issue, saying they were open to adjusting their deal with Athens; some commercial bankers say privately that Greece should be able to get about 80 percent participation in its debt swap, enough for it to move forward.
So the euro zone may succeed in having all major elements of the package, including a reformed EFSF, in place by the end of October. Until then, it will count on the European Central Bank to buy Italian and Spanish bonds if necessary to stave off disaster in the markets.
Full implementation of the package may not be enough, however, to deter fresh market attacks on indebted countries.
Investors know the EFSF's power is finite; given its other commitments, its effective capacity of 440 billion euros would not be enough, for example, to finance a multi-year support scheme for Italy if that became necessary.
Belgian Finance Minister Didier Reynders has called for a bigger EFSF, and some European officials say privately that the fund may need to be doubled or tripled. But that is a politically difficult step which Germany are France are not now prepared to take, and if Paris agreed to shoulder a bigger fiscal burden with a big increase in its guarantees to the EFSF, that could fuel market concern about France's own debt position.
"There's a more than 50 percent chance that before now and the end of the year the issue of scale of the EFSF and what needs to be done in order to stabilize the situation is back on the agenda, and politicians are being forced to hold summits to deal with it," said Malcolm Barr, an economist at JP Morgan.
A more radical potential solution to the crisis, the issuance of joint bonds by euro zone governments, has won support in markets and part of the business community, and among some senior euro zone officials; Sergio Marchionne, chief executive of Fiat, said this week it was the only solution.
But Germany remains adamantly opposed to the idea, which would probably raise its own borrowing costs while bringing down those for riskier states.
Barr said euro zone bonds might be introduced gradually, possibly being issued firstly to finance an expanded EFSF. But that could require changes in the EU's treaties.
So the euro zone may remain dependent for much longer than it hoped on buying of government bonds by the ECB. Since the central bank is internally divided over this role, with could fuel inflation and undermine its reputation for strict monetary management, markets are not wholly comfortable with it.
"At the end of the day, I am pretty sure that Germany and other countries are prepared to do what is necessary in order to avoid a collapse of the euro," said Fredrik Erixon, a director of the Brussels-based European Center for International Political Economy.
But he added, "They are not going to do it in a nice, clear, rational way."