EU facing a summit packed with pitfalls

Banking supervision, the single market, a centralized euro zone budget, a single bank resolution fund, direct recapitalization of banks from rescue funds and much stricter fiscal oversight.

If there were any doubts about how complex a task the Europe Union faces to protect the euro and shore up its finances, the agenda for the EU summit on October 18-19 should lay them to rest.

In an 8-page document setting out the issues for discussion, Herman Van Rompuy, the president of the European Council, touches on just about everything controversial facing the bloc.

But rather than offering specifics, the document is more of a wish-list of topics that need to be broached in the months ahead if the EU, and the 17 euro zone countries within it, are to press ahead with the risky and politically challenging task of retooling the economic and monetary union that binds them.

What's more, the European Commission, the EU executive that has the right to propose new legislation, has also pitched in with a series of ideas on banking union, budgets, changes to the EU treaty and how to separate retail and investment banking.

The upshot is that EU leaders and their finance ministers - who will meet in Luxembourg next Monday and Tuesday to prepare the ground for the summit - have a vast array of suggestions and half-sketched proposals to work their way through, any one of which will aggravate tensions among major member states.

"It is hard not to be sympathetic to the various European finance ministries that will have to wade through all these proposals, and integrate them into a coherent whole," Alex White, an economist with JP Morgan in London, wrote in a research note on Wednesday.

"The next major point at which this will all be discussed is the European leaders' summit ... Another 4 a.m. compromise may lead to real confusion."

VAGUE ROADMAP

It is Van Rompuy's draft discussion paper, distributed to EU capitals on October 1, which will form the basis for discussion at the summit and which raises the largest number of questions.

At the last summit in June, Van Rompuy was charged with looking into four broad areas that the EU needs to tackle in the years ahead: a 'banking union' to resolve problems in the sector; a 'fiscal union' to strengthen budget oversight; an economic union to coordinate labor and social policy; and a 'political union' that makes the whole more democratic.

Over the past three months he has consulted with the presidents of the European Central Bank, the European Commission and the Eurogroup, which represents euro zone finance ministers, on the steps that need to taken, resulting in the draft that will be discussed at the October summit, with a final report due in mid-December.

The language in the draft is necessarily vague as Van Rompuy has had to be careful to accommodate the positions of all member states, from Germany's push for ever stricter rules to France's reluctance to surrender too much authority rapidly to Brussels, and the myriad concerns of smaller countries such as Estonia.

When it comes to the possibility of a single euro zone budget, something Germany has advocated in recent weeks as a potential way of coordinating transfers among member states, Van Rompuy touches on broad issue without pointing in any direction.

"For the euro area, beyond the current steps to reinforce economic governance, evolving towards an integrated budgetary framework is necessary to ensure sound budgetary policies," says the draft, which will be revised repeatedly in the weeks ahead.

"In that context, mechanisms to prevent unsustainable budgetary developments as well as mechanisms for fiscal solidarity, e.g. via an appropriate fiscal capacity, should be explored."

The language on tighter budget oversight - which could lead to the Commission having a virtual veto over national budgets under some conditions - is equally carefully hedged:

"The idea for the euro area member states to enter into individual contractual arrangements with the European level on the reforms they commit to undertake and their implementation should be explored," it reads.

Diplomats are already playing down the likelihood of any breakthroughs at the summit, which is being called a "stock-taking exercise" to see where countries stand on the issues and determine where progress can best be made.

What's more, immediate problems in Spain and the possibility of the country applying for a fuller bailout from the euro zone's rescue funds could hijack the summit at the last minute.

And there are also outstanding issues from the June summit - such as how to interpret when it will become possible for the rescue fund, known as the ESM, to directly recapitalize banks - that will have to be resolved when leaders meet in October.

After reading through Van Rompuy's draft document in detail, senior diplomats described it as a general 'roadmap' for discussion rather than a document that will break new ground, and said it could raise more questions than it answers.

"Behind every one of the discussion points, there is the basis for an extended dispute between Germany and France, Finland and Spain, Ireland and Germany and pretty much any other country you care to mention," one diplomat said.

"It could be a long-winded summit."

(Writing by Luke Baker. Editing by Jeremy Gaunt.)