Stark political differences are at the heart of the Euromess. The German parliament, for example, is reluctant to threaten Germany’s own economy by bailing out Greece, Italy, and other troubled states. To explain the political side of things, I talked to Henry Farrell, associate professor of political science and international affairs at George Washington University. He’s not optimistic. (The transcript has been lightly edited for length and clarity.)

Suzy Khimm: How likely is it that we’re headed for another global financial collapse due to Eurozone crisis?

A protester holds a Greek flag as he confronts riot police in front of the parliament in Athens. (SOURCE: REUTERS)

The fundamental problem here is a profoundly political problem. It used to be that bondholders assumed that the EU had changed things so that bigger member states were on the hook for the debts of the poorer member states. Therefore, it made sense to lend money to poorer member states, and bondholders were going to get their payday. I would call it a confidence bubble. It coasts along for a period of time, but once that confidence bubble gets pricked, it’s really hard to get it back. Bondholders were basing their holdings on set of political expectations — that when push came to shove, Germany would either bail out Greece, or Greece would never have to be bailed because it would behave the way that good northern states would.

In the EU, the instinct is always to fudge — to come up with technocratic fudges that are incomprehensible to the outside world but get some minimum consensus among states…But the problem is not a technocratic problem. It’s a political problem. So they’re going to hesitatingly help out the Greeks, but it’s not going to provide political actors or market actors the confidence I think they need

SK: So what specific obstacles must be overcome to resolve the crisis in Europe?

HF: They’re trying to thread a couple of very difficult political needles. You can think of four sets of veto actors they’re trying to deal with:

1) Nationalists of some sort — like the Finns in Finnish government are figuring out how they can get trade-offs, though it seems they’re now willing to come along.

2) National parliaments in richer northern countries, with profound skepticism of the “we are losing our money to southern profligates” variety. They have very genuine, well-placed worries about what’s going to happen to their AAA credit rating. It’s a clear point of worry, given Merkel’s dubious level of support — whether she can get this through without a point of rebellion [from the German Parliament].

3) The German constitutional court has laid out a clear stricture that rules out certain kinds of options, such as the idea of Eurobond arrangement. They said this is not going to be possible given current European Union--it’s not a democratic constitutional order, and certain kind of things cannot happen;

4) The European Central Bank is facing its own difficulties. It’s being asked to bail out, buying bonds month after month, no end in sight. There are a lot of pointed arguments from northern countries in ECB, with the recent resignation [of Austrian board member Juergen Stark]. They were put in a politically impossible position--posed to do things that it was not meant to do, but were obliged to do.

SK: What’s likely to happen in the longer term? And what do you think the best outcome for the EU would be?

HF: The only choices available to EU is let the Eurozone to shrink into a tighter currency union, or jump forward with a new fiscal arrangement, with a real potent set of institutions at European Union. You have one scenario in which the EU actually collapses or shrinks dramatically, and the only countries in the game are northern Europeans countries. I’m not saying I think this is a smart idea. If you’re trying to unravel the situation [in Greece, Italy, etc.], the situation is going to be ghastly. The other possibility is a leap forward in the integration process. But the problem posed by Karlsruhe [the German high court] is when they say it’s a real problem having fiscal union in political space which is not a constitutional democracy.

Part of the problem is that you have multiple ways you can get to bad equilibrium, and a relatively small number of ways to reach a good one...I think the second option is substantially less likely, but it’s infinitely better. I think that the bad outcome [of a shrinking Eurozone] is the more probable one. I don’t think it will happen immediately…it will be another several months of bailing the ship out, before finally the raft’s abandoned.

SK: What role can the U.S. play in all this, and what can it do if the financial contagion and economic fallout threatens to spread?

HF: The U.S. leverage on this is fundamentally limited. A certain amount they can do – if an obvious solution becomes clear, the U.S. by providing selective pressure can help move recalcitrant states along the necessary path. But it’s extremely difficult for the U.S. to get involved in something that’s another political entity’s constitutional make-or-break moment. [There’s a] certain amount of cajoling the U.S. can do if you have states are acting like idiots. But if it gets too heavy-handed, they’re going to be told to butt out of this.

[In terms of shielding the U.S. from Eurozone fallout], I guess the problem is there is not much the U.S. can do in terms of decoupling in the financial arena. The obvious solution is to try to cushion itself through fiscal stimulus or similar. But that might not be possible--the EU is not the only deeply politically screwed up place.