Merkel vows faster eurozone reform

German Chancellor and leader of the Christian Democratic Party (CDU) Angela Merkel gestures as she addresses the media during a party convention in Kiel, January 14, 2012. [Photo/Agencies]

BRUSSELS/BERLIN - European leaders promised on Saturday to speed up plans to strengthen spending rules and get a permanent bailout fund up and running as soon as possible, a day after US agency S&P cut the ratings of several euro zone countries' creditworthiness.

In a conference call with reporters and analysts after downgrading nine of the euro zone's 17 countries, Standard & Poor's said it saw continued risks from the debt crisis that has overshadowed Europe for the past two years and said the single currency area was heading towards recession.

It also warned that France, which suffered a downgrade to AA+ from the top-notch AAA, was at risk of further cuts if a recession further inflates its debt and budget deficit.

"The policy response at the European level has in our view not kept up with the rising challenges in the euro zone," S&P credit analyst Moritz Kraemer said on the call, forecasting a 40 percent chance of euro zone gross domestic product contracting by up to 1.5 percent in 2012.

The downgrades were delivered hours after talks between private bond holders and the Greek government aimed at restructing Greece's vast debts broke down, pushing Athens closer to default, an event that would tarnish euro zone unity and pose a contagion threat which could engulf the bloc.

In Germany - whose top AAA rating survived unscathed - Chancellor Angela Merkel said the downgrades underlined why a so-called 'fiscal compact' must be signed by member states quickly, and the next bailout mechanism, known as the ESM, should be funded soon.

"We are now challenged to implement the fiscal compact even quicker ... and to do it resolutely, not to try to soften it," she said at a meeting of her conservative Christian Democrats (CDU) in the northern city of Kiel.

"We will also work particularly to implement the permanent stability mechanism, the ESM, so soon as possible -- this is important regarding investor trust," she added.

European Central Bank policymaker Joerg Asmussen warned that Europe's drive to tighten fiscal rules was being softened, considering the latest draft of the agreement a "substantial watering down" of budgetary discipline because it would allow extra spending in extraordinary circumstances, the Financial Times Deutschland reported.

Leaders including Merkel have urged countries to tighten their belts with higher taxes and deep spending cuts to rein in massive budget deficits. But that has heightened market concern about their ability to grow their way back to health, pushing borrowing costs even higher for heavily indebted governments.

S&P said it was not working on the assumption of a euro zone break up, although it blamed its leaders for focusing too much on cutting debts and not sufficiently on competitiveness.

"We think that the diagnosis of policymakers regarding the crisis is only partially recognising the origin of the crisis," said Kraemer, mentioning the focus on budget austerity.

"The proper diagnosis would have to give more weight to the rising imbalances in the euro zone in terms of the external funding positions, current account positions, much of it is based in diverging trends of competitiveness," he said.