Eurozone leaders agreed to bend their aid rules to shore up banks and bring down the borrowing costs of stricken members like Italy and Spain, in a sign the bloc is adopting a more flexible approach to solving its two-year old debt crisis.
The measures, agreed after 14 hours of intense talks that pitted Rome and Madrid against Europe's paymaster Berlin, were welcomed by financial markets. The euro rose sharply against the dollar and yields on Spanish and Italian debt fell sharply.
Ireland hailed the decisions, which represented a significant shift on Germany's part, as a "game changer" but many of the details remain to be worked out and leaders appeared at odds over just how strict the conditions attached to any assistance should be.
"The summit result offers no 'silver bullet' to solve the euro crisis once and for all," said Holger Schmieding of Berenberg Bank. "It is another attempt to buy some extra time for the underlying fiscal repair and structural reforms to show results. All in all, there is some progress."
Responding to pleas from Spanish and Italian leaders, who had threatened to block a package of growth measures, the euro zone agreed that its rescue funds could be used to stabilise bond markets without forcing countries that comply with EU budget rules to adopt extra austerity measures or economic reforms.
Crucially, it was also agreed that a single supervisory body for euro zone banks, housed under the ECB, would be created by the end of the year - much faster than previously envisaged.
Once this is operational, the bloc's future permanent bailout fund, the European Stability Mechanism (ESM), would be able to recaptalise banks directly without increasing a country's budget deficit, and without preferential seniority status.
The latter concession could help Spain, which formally applied for up to 100bn euros in assistance this week to recapitalise banks laden with bad debts from a burst housing bubble.
Investors had been concerned that the ESM had preferred creditor status if Spain were to default, the ESM would get paid back first and there may not be enough money left to repay private bondholders.
The steps represented a concession by German Chancellor Angela Merkel, who had insisted in the run-up to the crunch summit in Brussels that aid go directly to states and only under strict conditions.
Calls have steadily mounted on her to take a more flexible approach to the crisis, which erupted in early 2010 and has forced full bailouts of Greece, Ireland and Portugal.
Both Italy and Spain are seen as "too big to fail", giving the leaders of these countries, Mario Monti and Mariano Rajoy, added leverage in the talks.
City A.M. Reporter