The Euro crisis is not simply a financial dynamic. It is the end of a period of history,
the confluence of several trend lines: the unification of Germany, the end of the Soviet Union, the collapse of the Berlin Wall, the expansion of NATO, the expansion of the European Union, and the creation of the single currency together constitute a unique period in modern European history.

The trend line was also defined by moving the borders of Europe eastward with the expectation that an expanded Europe would manage its own internal dynamics well and provide stability in an historically unstable region of the world.

However, the Euro crisis is also gradually revealing serious flaws in the functionality of both the European Union and NATO. The two decades of European consolidation and expansion are now confronted with new centrifugal forces that are again widening political, social, economic and security differences within the EU and among its neighbors. Deepening recession and severity of its impact on employment and well being of citizens are increasing these differences and encouraging reenergized nationalism and renewed political localization.

Europe will now be challenged in the form of rollbacks of the many intertwined strands of integration, fraying what has been an intricate but incomplete tapestry. It is questionable whether Europe can prevent stalling of the integration process in the face of widening gaps among the interests of each nation and even within each nation.

Can Europe devise a new, positive path, a new trajectory of interaction within Europe and between Europeans and the rest of the world?

In addressing this question, it will not be the views of Europe’s intellectuals, strategists, or Eurocrats that matter; it will be how voters, politicians and public conflicts define the re-configured Europe.

This re-configuration will not be defined behind closed doors in Brussels, but in the heat of political and economic conflict, under the influence of outside of Europe events and stakeholders, and in positions taken by key nations seeking primacy in the new Europe.

Low Likelihood of More Integration

Leaders of the World Bank and the IMF are calling for “bold action” by European governments. But these actions are really along the line of deepening and broadening the existing approach to European union and development, which is politically unrealistic.

For example, the negotiation of a “banking union” and a “fiscal union,” key pillars of moving to greater integration will continue to be resisted by core economic and financial interests within Europe. While the EU Commission is hurrying to devise the outline of a banking union, encompassing all of the EU, consensus will simply not emerge any time soon.

A true banking union would require common capitalization requirements and common bank supervision. In parallel discussions among Eurozone governments about adherence to Basel III bank reforms, called for by the world’s G20 leaders, both France and Germany have led objections to common capital requirements and common definitions of what constitutes capital.

Since the birth of the Euro, the French and Germans were in the lead in resisting transfer of national regulatory power to the ECB or some other Eurozone wide entity. Other Euro governments have also insisted on keeping local supervision of banks. What really lies behind this continuing resistance is that national governments and their banks do not wish to reveal the true leverage and the weakness of capital among European banks.

Thus, when the European Banking Authority (EBA) was established to conduct stress tests of European banks, the EBA had to rely on information provided by national regulators, who in turn had to rely on self-devised, self-certified definitions of capital and value at risk (VAR) provided by each bank.

Small wonder that the first bank to fail after a round of stress tests was Belgium’s Dexia, which the EBA had previously rated as one of Europe’s strongest banks after completion of its stress test.

Standing in the way of formation of a banking union is that everybody has been deceiving everyone else, banks to regulators, and regulators to each other, and national governments unwilling to allow other governments to see the ugly truth.

Eurozone governments are still trying to hide the reality of European bank weaknesses. The main reason is that Eurozone economies are far more bank-dependent than economies like that in the US or UK, where substantial non-bank financing alternatives exist for the corporate sector.

In the Eurozone, banks ARE the financial markets; in the US banks are just one segment of a multifaceted financial market.

Eurozone governments and their politicians simply do not want to risk collapse of their national economies through full revelation of the weaknesses of their banks. Thus, this is not solely an issue of whether or not to yield national sovereignty. A true banking union based on transparency would necessitate a redefinition of all European banking against a backdrop of hundreds, even thousands of bank failures and the decimation of the savings of millions of European citizens.

European leaders are also attempting to initiate a more comprehensive fiscal union, with new decision making mechanisms that transfer sovereignty in parallel with the new banking union. The fiscal union agenda involves transfer of sovereignty from national capitals to a new political system, possibly including the European Parliament, the EU Commission, the ECB and a new Euro Finance Ministry. Taking into account European demographics, with low birth rate and growing life expectancy, the social safety net of each European nation is in jeopardy. If the banks also were to be jeopardized, private savings would also implode. A fiscal union would likely impair the degree of state support for aging citizens.

We do not believe that any of the Eurozone governments are ready for such a political transition in which citizens in each nation must agree to be under leadership of people appointed or elected in some other nation among the European Union members. Would France really agree to become a lesser state under the dominance of German-devised rules in a true European federation?

This puts Europe back in play in global politics and erodes a pillar of American foreign policy at a time of significant strategic uncertainty in the Middle East and during the so-called Pivot to the Pacific. If Europe is in fundamental play, with the Russians and Chinese eager to participate as key players in shaping what comes next, how ready are American elites for such a strategic transition?

Disaggregation and Re-Aggregation

Simply put, the map of Europe is in play again and with consequences for U.S. stakes and interests. The Russian-Georgian War of 2008 or the Bosnia crisis of the 1990s are preludes to dynamics which do not easily fit into an expansion of the West model for the future of Europe. The Iraq invasion, the Afghan engagement, and the rise of Iran as a key regional player, along with the discontinuity associated with the Arab spring, work together to create a new global chessboard.

And this new chessboard is emerging as the expansionism in Europe reverses, and Euro disaggregation is on offer.

The most compelling challenge facing European elites is how unprepared they are for strategic unraveling. It is not just that there is no readily apparent Plan B to Brussels-led expansion and consolidation. Threats to the European core such as Muslim fundamentalism, Russian energy-driven foreign policy, and Chinese eco-imperialism are key elements, which will also shape the next phase of European history.

The American Pacific Pivot is important less for the reality of American focus or commitments than a statement by the Obama Administration of a phasing down of US involvement in Europe. The movement away from underwriting European defense in a context of an uncertain U.S. role in global engagement is the new reality.

Rather than a strong America underwriting European expansion of the 1990s, in the 21st century, the U.S. will not be able or politically willing to underwrite the next phase of European development. This will not be decided by national security elites but by the political dynamics of Congress and changing priorities of American voters.

Indeed, in 2012, as Washington faces the man-made tsunami of sequestration, the inability to carve out a positive global strategy in Washington is the core reality, not what the next U.S. strategy will be.

Even if a Romney Administration replaces the Obama Administration, the turnover in Congress – which will be significant –- underscores that rather than a new American strategy challenging Europe, it will be difficult for Washington to have an effective strategy at all, at least for some lengthy period of rethinking America’s role in the world.

Europe is essentially on its own in a fundamental sense as the key nations of Europe seek to sort through the disaggregation of the Euro zone, and the shaping of a new political and economic map of Europe.

We see at least three key actors that will by their actions re-shape the European map.

The first will be Germany. They will be key players in re-shaping the Euro and downsizing the Euro zone to what might be called the Ger-Euro. The economic and political weight of Germany will go up as the Euro crisis goes on; and the weight of German influence will be to re-shape the Euro zone into a more cohesive, “responsible” and integrated “core.”

But this is a united Germany, which is shaping a Euro-cohesive process, not a divided Germany, which had to accept the dictate of smaller European powers to gain an end of national division. It is a Germany which already recognizes its increasingly intertwined future with Russia and the Far East. It is a Germany already pivoting East.

The second will be the Nordic states. These states are NOT part of the Euro zone, but are key players within Europe write large. And in many ways, the Nordics might be the architects of the new phase of Europe. The Arctic future is central to both Denmark and Norway, and Sweden has chosen a path towards free markets beyond the ken of the French in current circumstances.

All of the Nordics except Finland have independent currencies and have clear concerns about the dominance of Russia in energy markets within Europe; and have no confusion about the Russian challenge or the need for an American connection in exploitation of the Arctic.

In many ways, if the U.S. can shape a core Arctic policy – with presence, resources and commitment – this will matter most in re-forging an alliance with Nordic powers.

The third will be the Greeks and their fate. Greece is a metaphor for a weak economy, little prospect of economic growth and significant lack of political will to confront realistically the cost of social expenditures. The emergence of NATO was rooted in a Greek crisis; and perhaps the new European bargain will be as well.

In any case, the weakening of Greece, and the high probability that Greece will go its own way on currency and other economic issues will occur in the midst of the Chinese economic global reach and Russian (energy and other) activism in the Middle East. China and Russia will both be eager to become deeply involved in the destiny of Greece and its geographic position on the Mediterranean Sea.

In our report, we focus in some detail on each of these key actors and how their activities will re-shape Europe and the European map in the global dynamic.

But a key point is rather simple: unlike when the integration of Europe swept forward after the unification of Germany and the dissolution of the Soviet Union, American hegemony has been replaced by Russian and Chinese power and global activism. The re-shaping of the European map will have Chinese and Russian influences.

For example, with Russia expanding its activity in the Eastern Mediterranean, an expanded role in Greece would enable Putin to shape a more comprehensive presence in the Mediterranean and the Middle East.

It would be interesting as well to look at the activity of the Gulf Cooperation Council states. These states are understandably preoccupied with Iran and Muslim Fundamentalism in the Arab Spring states and the continuing challenge of Sunni-Shiite rivalries. Indeed, the economic problems of Egypt might well see the Saudis providing significant cash to underwrite the kind of stability the Saudi regime might wish to see.

But a Chinese and Russian opening in Greece would not go unnoticed by the GCC states. The concern which the UAE has had for many years with regard to Russia and China providing arms and support for the Iranians would be enhanced as they saw an increase in Russian and Chinese influence via the Greek vortex.

In other words, the impact of the Greek vortex will be enhanced by the dynamics of change in the neighborhood.

The New European Map

An important period of European history is at an end. The path towards European federalism is the logical outcome of the past twenty years of developments, but the challenges are difficult to continue down this path.

A more likely outcome is disaggregation and the restructuring of Europe. We have suggested that a new European map, in effect, could emerge and have discussed this map in terms of three dynamics: the formation of the Ger-Euro, the enhanced role of the Nordic states forged around their Arctic destiny, and the implosion of Greece. In future reports, there will be a continuing focus on other dynamics of disaggregation and the re-shaping of Europe.

We believe that the impact of outside powers will be significant in the period ahead in shaping the European map as we have known it in recent decades.

Harald Malmgren served as chief U.S trade negotiator under both Presidents Nixon and Ford. Since 1977 he has been adviser and strategist to international corporations, banks and sovereign wealth funds. He has also advised finance ministers and prime ministers of a number of governments. Robbin Laird, a member of Breaking Defense’s Board of Contributors, is an international defense consultant, the owner of Second Line of Defense website, and a former National Security Council staffer.