* Euro zone to seal separate treaty on fiscal union with
* Britain blocks EU treaty change, stands isolated
* ECB's Draghi: outcome good basis for 'fiscal compact'
* New pact will have stricter debt rules and enforcement
* Permanent euro zone bailout fund active from July 2012
By Luke Baker and Mark John
BRUSSELS, Dec 9 Europe secured an historic
agreement to draft a new treaty for deeper economic integration
in the euro zone on Friday, but Britain, the region's third
largest economy, refused to join the other 26 countries in a
fiscal union and was isolated.
The outcome of a two-day European Union summit left
financial markets uncertain whether and when more decisive
action would be taken to stem a debt crisis that began in Greece
in 2009, spread to Portugal, Ireland, Italy and Spain and now
threatens France and even economic powerhouse Germany.
A new treaty could take three months to negotiate and may
require risky referendums in countries such as Ireland.
Two ECB sources told Reuters the European Central Bank would
keep purchases of euro zone government bonds capped for now and
take no extra firefighting action. Debt markets were wary.
Interbank lending rates eased but Italian 10-year bond yields
rose to around 6.5 percent.
Twenty-six of the 27 EU leaders agreed to pursue a tougher
budget discipline regime with automatic sanctions for deficit
sinners in the single currency area, but Britain said it could
not accept proposed EU treaty amendments after failing to secure
concessions for itself.
"This is a breakthrough to a union of stability," German
Chancellor Angela Merkel said. "We will use the crisis as a
chance for a new beginning."
After 10 hours of talks that ran into the early hours of
Friday, all 17 members of the euro zone and nine of the 10
outsiders resolved to negotiate a new agreement alongside the EU
Britain's few allies melted away in the Brussels dawn. All
the other nine non-euro states said they wanted to take part in
the fiscal union process, subject to parliamentary approval.
The rift, which could widen into a permanent divide between
London and the continental mainland, occurred 20 years to the
day after European leaders agreed at the Maastricht summit to
create the single currency, with Britain opting to stay out.
Prime Minister David Cameron insisted at a news conference
that it remained in Britain's interest to stay in the EU and
take advantage of its single market.
One senior EU diplomat called Cameron's negotiating tactics
"clumsy". Among other things, he had sought a veto on a proposed
financial transaction tax, which may now be voted through by a
majority over the objections of the City of London financial
NO BIG BAZOOKA
ECB President Mario Draghi called the EU's decision a step
forward for the stricter budget rules he has said are necessary
for the euro zone to emerge stronger from the turmoil.
"It's going to be the basis for a good fiscal compact and
more discipline in economic policy in the euro area members,"
Draghi said. "We came to conclusions that will have to be
fleshed out more in the coming days."
Two ECB sources said the bank's governing council decided on
Thursday to keep bond buying limited to around 20 billion euros
a week and there was no need to review the decision in the light
of the summit outcome.
"You will see some further purchases but not the huge
bazooka that some people in the markets and the media are
awaiting," one central banker said on condition of anonymity.
French President Nicolas Sarkozy told reporters the ECB's
move to provide unlimited three-year funds to cash-starved
European banks would be more effective, by enabling them to
continue buying government bonds.
"This means that each state can turn to its banks, which
will have liquidity at their disposal," he said.
Analysts said the notion that commercial banks could step up
their purchases of government bonds looked optimistic given the
same banks are being asked to deleverage and recapitalise if
"SEETHES, SULKS, GLOATS"
Merkel said the world would see that Europe had learned from
its mistakes and avoided "lousy compromise".
Sarkozy sounded elated at having united a big group around
the euro zone as the EU's core, long a French objective.
"This is a summit that will go down in history," he said.
"We would have preferred a reform of the treaties among 27. That
wasn't possible given the position of our British friends. And
so it will be through an intergovernmental treaty of 17, but
open to others."
One EU diplomat summed up the outcome as: "Britain seethes,
Germany sulks, and France gloats."
Active ECB support will be vital in the coming days with
markets doubting the strength of Europe's financial firewalls to
protect vulnerable economies such as Italy and Spain, which have
to roll over hundreds of billions of euros in debt next year.
Traders said the ECB bought Italian bonds on Friday to
The euro rallied in Europe and U.S. shares gained,
but analysts said the summit had done little to convince markets
that a solution to the crisis was at hand.
Asked if the euro was safe now, Polish Prime Minister Donald
Tusk said: "I'm not sure."
Britain refused to allow its partners to amend the EU
treaty, demanding guarantees in a protocol protecting its
financial services industry, roughly one-tenth of the country's
economy. Sarkozy described Cameron's demand as unacceptable.
Cameron hinted London may now try to prevent the others from
using the executive European Commission and the European Court
of Justice, saying: "Clearly the institutions of the European
Union belong to the European Union, they belong to the 27."
But European Council President Herman Van Rompuy, who
chaired the summit, said the EU institutions would be fully
involved in the new treaty, which would be signed in early March
at the latest. The euro zone plus nine may hold a summit without
Britain as early as January, diplomats said.
The rift may increase pressure from Eurosceptics within
Cameron's Conservative party and outside it for Britain to hold
a referendum on leaving the EU, which it joined in 1973. The
prime minister strongly opposes such a course, which he has said
would be disastrous for British interests.
Britain conducts more than half of its trade within the EU
and could suffer on a broad range of financial regulation issues
if the other countries decided to move forward as 26.
Van Rompuy said the summit's key achievement was to tighten
fiscal limits, including the need for countries to bring budgets
close to balance.
"It means reinforcing our rules on excessive deficit
procedures by making them more automatic. It also means that
member states would have to submit their draft budgetary plans
to the (European) Commission," Van Rompuy said.
But a new treaty will take weeks of wrangling as countries
like Finland and Slovakia oppose a Franco-German drive to take
decisions on future bailouts by an 85 percent supermajority to
avoid being taken hostage by a single small country.
In a meeting billed by some as a last chance to save the
euro, the leaders also took several decisions on the permanent
bailout fund, the European Stability Mechanism, which will come
into force a year early in July 2012.
The ESM's capacity will be capped at 500 billion euros ($666
billion), less than had been suggested was possible before the
summit, and the facility will not get a banking licence, as Van
Rompuy originally had proposed, due to German opposition.
It also was agreed that EU countries would provide up to 200
billion euros in bilateral loans to the International Monetary
Fund (IMF) to help it tackle the crisis, with 150 billion euros
of the total coming from the euro zone countries.
Cameron's decision to stay out of the treaty-change camp
could spell problems for Britain. Deeper integration on the
continent could involve changes to the single market and
financial regulation, both of which could have a profound impact
on the British economy.
"Cameron was clumsy in his manoeuvring," a senior EU
diplomat said. It may be possible that Britain will shift its
position in the days ahead if it discovers that isolation really
is not a viable course of action, diplomats said.