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In the run-up to last week’s EU summit in Brussels, many observers described the meeting as a last chance to save the euro. Greek contagion had spread to Italy, which was threatening to blow a hole in the global economy so large it would have made the Lehman Brothers collapse look like a harmless ripple. The crisis had already forced a change of government in both countries, and markets were starting to prepare for a possible break-up of the eurozone.

At first glance, disaster appears to have been averted. A deal was struck, albeit without the UK, and markets, while not thrilled, did not go into free fall. But nobody believes this is the end of the story.

At the risk of spoiling the suspense, I shall state from the outset that I do not believe the eurozone will collapse, although I do not completely exclude the possibility. In this article I intend to set out my reasons for taking this view, together with some further reflections on what can be learned from this crisis. In doing so, I want to make clear that I do not have formal economic expertise or training, and that these are purely my personal views, not those of the European Commission (from which I am currently on unpaid sabbatical).

How could the eurozone collapse?

In order to assess in any meaningful way how likely the eurozone is to collapse, we first need to consider what this would mean exactly, and how it could happen. One thing that has struck me in the many articles I have read on the subject is how few people have done this in a careful way.

Essentially there are three scenarios that spring to mind: 1) a catastrophic loss of confidence in (and therefore drop in value of) the euro, leading to hyperinflation and economic meltdown; 2) a disorderly default by a eurozone country (such as Greece or Italy); or 3) a political decision to break up the euro.

It is, of course, the second of these scenarios that has been freaking out the market. In the meantime, the actually value of the euro has held up remarkably well (at the time of writing still valued at $1.34, so 34% up from its launch on 1 January 1999).

One of the assumptions that has generally been made in the analyses I have read is that such a default would inevitably mean expulsion from the eurozone for the country concerned. This doesn’t make sense to me. The euro is, by treaty and national law, legal tender in all those countries. It can’t suddenly and magically be replaced by another currency. Nor is there any mechanism within the EU Treaty for a country to be expelled against its will. That this inconvenient truth has tended to be ignored by most commentators is itself intriguing.

There are risks, however. Much has been said about the exposure of banks (not least French and German banks) to the debt of countries whose solvency has now been called into question. Much has also been said about the role that the European Central Bank (ECB) could, potentially play, as a “lender of last resort.” What is perhaps less known is the extent to which the ECB’s actions are limited by its legal mandate, which is essentially to maintain a strong currency and control inflation. Faced with this limited mandate and the reluctance of fiscally conservative countries (led by Germany) to countenance inflationary solutions to the crisis, a further deterioration in the perceived solvency (and, as always with economics, this is ultimately all about perception) of a large eurozone country such as Italy could conceivably make the situation unmanageable.

What would be the consequences of such a collapse?

Looking back to the collapse of Lehman Brothers, it is clear that the decision-makers at the time greatly underestimated the real-world effects that failing to bail out the bank would have, and in many comments on the current crisis I see a similar pattern. People talk loosely about a collapse of the eurozone as if this would somehow be manageable. By contrast, the kind of scenario alluded to above is one in which governments basically lose control of the economy, with untold consequences in terms of social welfare, law and order. It is a nightmare scenario, and needs to be viewed as such by everyone.

It is, of course, possible to envisage a more benign break-up scenario in which a political decision is taken for certain countries to leave the euro-zone; however this seems extremely unlikely to happen.

Has the summit deal averted catastrophe?

Judging from the reactions of the markets last Friday, it would seem that most investors are confident that, for now at least, catastrophe has been averted. What is less clear is why. The deal itself, whose legal status and enforceability is in any case unclear, is mainly about improving fiscal discipline in the future, which at best is about ensuring that it doesn’t happen again, and at worst is a case of shutting the barn door after the horse has bolted.

There are nevertheless two reasons why markets are probably right to be somewhat reassured.

First, and most importantly, at least 26 out of the 27 EU countries—including most of those not currently in the eurozone—signed up to a deal, however, flawed, that represented genuine political compromise in an effort to deal with the crisis, and which goes to the heart of how the EU functions. This in itself has created the kind of positive dynamic that is needed to be confident that Europe’s leaders will steer the eurozone successfully, if erratically, through the storm. Some of the dire warnings preceding the summit were probably designed to create political cover for the politicians to take potentially unpopular decisions, but failure to reach any kind of deal would indeed have boded ill for the future.

Secondly, and talking of political cover, a common view is that the emphasis on fiscal discipline will reassure those who have an interest in keeping the euro strong and in “punishing” the countries that are in trouble, thus making more aggressive action by the ECB more palatable, and therefore more politically feasible.

What about the UK?

This is not a glorious time to be British in Europe. British Prime Minister David Cameron decided to veto the Treaty amendment that would have been the preferred legal form of the deal after his demands for guaranteed exemptions for the City of London with regard to financial regulation (not directly related to the deal under discussion) were refused.

To get a taste of how this kind of thing goes down on the continent, one only has to look at the words of French President Nicholas Sarkozy back in October: "We are sick of you criticizing us and telling us what to do. You say you hate the euro and now you want to interfere in our meetings." Former UK politician Paddy Ashdown has stated that Britain’s isolation last week has “tipped 38 hours of foreign policy down the drain.” Many in Britain are trying to put a positive spin on what happened, but this seems to be a clear case of denial.

It was not only lobbying by the City that drove Cameron to take this position. It was also his fear of coming under massive attack by the Europhobic wing of the British Conservative party (the UK’s version of right-wing Republicans) that led him to prefer no deal to trying to get a Treaty amendment through the British parliament. Prior to the summit, a member of his party warned him not to come back “like Neville Chamberlain”; as a columnist in the Economist has since noted, for some Conservative backbenchers it is always 1938.

Paradoxically, though, just as the euro-crisis is driving further integration in Europe, the calamitous nature of Cameron’s position at the summit may be what is needed to change the debate in the UK. Already the clamor is starting from business leaders—including, ironically, from the financial sector—about the loss of British influence. Perhaps they now have the motivation, as well as the resources, to explain some realities to a British public that has been indoctrinated by a largely nationalistic, hate-mongering media. Sometimes things just have to get worse before they get better.