The leaders of the 17 member countries of the euro zone are to meet Thursday in Brussels to seek a way to keep the debt crisis from spiraling out of control after a week of market turbulence in which borrowing costs spiked in Italy and Spain.

Many see the meeting as a moment of truth, particularly for the German chancellor, Angela Merkel, whose caution has been blamed by some for the region’s failure to stem the crisis, and who, earlier this week, played down expectations of a breakthrough on Thursday.

“Nobody should be under any illusion: the situation is very serious,” said José Manuel Barroso, president of the European Commission, the executive arm of the European Union. “It requires a response, otherwise the negative consequences will be felt in all corners of Europe and beyond.”

As Mrs. Merkel, and the French president, Nicolas Sarkozy, met in Berlin on Wednesday, a diplomat said the “menu of options” upon which leaders will base a second Greek bailout was becoming clearer.

The commission was arguing for a plan that would have private creditors swap Greek bonds that mature before 2019 for new 30-year bonds, thereby prompting a selective default, according to an official briefed on the negotiations who was not authorized to speak publicly. The terms of the plan would imply a 20 percent reduction in the value of Greek bonds, the official said, which would raise tens of billions of euros to be directed to support the Greek bailout.

In addition, the other countries in the euro area and the International Monetary Fund would contribute €71 billion, or $101 billion, to the rescue plan, up to 2014.

Meanwhile, a tax on the banks equivalent to 0.025 percent of the assets of financial institutions could raise around €50 billion over five years and would finance a buy-back of Greek bonds via the euro zone bailout fund known as the European Financial Stability Facility, the official said. That would reduce the stock of Greek debt by around 20 percentage points of gross domestic product.

Although a tax on banks has been discussed for several days, it had previously been presented as a tool for raising private-sector financing without provoking a default, rather than a means of raising additional money. There are also technical problems with a bank tax which would have to be levied by each national government and would exclude countries that did not use the euro even if they had Greek liabilities.

With its willingness to contemplate selective default and ambitious targets for raising cash from the private sector, the European Commission proposal looks designed to appeal to Germany which has consistently called for banks to take a substantial part of the pain.

Germany, Finland and the Netherlands are at odds with the European Central Bank and some E.U. governments over their insistence that private bond holders share the pain in the new rescue effort. As well as worrying about contagion, the E.C.B has said that a selective default would make it impossible to accept Greek bonds as collateral. That may require special measures to ensure that liquidity still flows to the Greek banking system, the official said.

Officials said it was unclear whether the plan floated by the commission would be accepted by Berlin and Paris and other key governments, and it was possible that some parts could be extracted to make up a different package.

One element attracting growing consensus is the need to reduce the burden on indebted nations, not only by buying back Greek bonds but also through a reduction in the interest rates offered to Greece, Ireland and Portugal, which have also accepted international help. The maturities of these loans would also be extended.

The European Financial Stability Facility, or E.F.S.F., looks destined to gain a more important role, financing the buyback of bonds, and possibly the extension of credit lines or help in bank recapitalization.

“For the federal government, the participation of private investors is of immense value and is our aim,” Steffen Seibert, the German government spokesman said Wednesday. “We are very confident that there will be a good and sensible solution,” Mr. Seibert said in Berlin. His remarks contrasted sharply with what Mrs. Merkel said Tuesday when she bluntly remarked that the crisis could not be resolved in a “spectacular step.”

Judy Dempsey reported from Berlin. Jack Ewing in Frankfurt and Matthew Saltmarsh in London contributed reporting.

Article source: http://www.nytimes.com/2011/07/21/business/global/eu-official-warns-of-global-impact-if-europe-fails-to-act-on-debt-crisis.html?partner=rss&emc=rss