German Chancellor Angela Merkel could be forced into a major shift from her piecemeal approach to the euro zone debt crisis within weeks under rising pressure at home and in Europe.
Political allies and EU officials say she will have to choose between a leap forward in European fiscal integration to support Greece and other debtors, or possibly forcing a hard restructuring of Greek debt.
Many expect her to choose a European solution despite domestic resistance.
Since the crisis began in late 2009, Merkel has reluctantly agreed to bail out Greece, Ireland and Portugal one-by-one, vowing to do all that is necessary to save the euro. Contagion now threatens far bigger countries like Spain and Italy.
Only once has she wavered from a rock-hard line towards the currency area's financial weaklings -- in May 2010 when under intense pressure from financial markets and other leaders in the bloc, she accepted the creation of a rescue fund.
The bloc's crisis has reached a similarly critical stage this week and with an emergency summit of EU leaders under discussion, Merkel may be forced once again to swallow steps she has resisted publicly and privately for months.
"Merkel has nothing to gain politically from allowing the euro zone to fall apart," an official close to the chancellor told Reuters.
Frustration at Berlin's tough line insisting that private bondholders must share the burden of a second Greek rescue has grown in Europe over the past weeks, bubbling over at a meeting of euro zone finance ministers in Brussels on Monday.
In a letter to the Eurogroup, Greek Prime Minister George Papandreou blamed Merkel indirectly for the bloc's predicament, calling for "strong and visionary European leadership" and an end to "tactical politics" to appease domestic audiences.
In Berlin as well, disillusion with Merkel's stance is growing. In private, members of her own party and coalition partners acknowledge the time has come to adopt a new approach, although divisions remain over whether greater fiscal union or a hard Greek debt restructuring are the best options.
"At the moment we are just trying to win time in the hope of preventing contagion to other weak countries," said one senior lawmaker from a party in Merkel's conservative coalition.
"The truth is that for Greece, what we are really looking for is the right place to crash the plane. It should not be over a city, but in the countryside if possible."
Clues on direction
Monday's meeting of euro zone finance ministers exacerbated market concerns about the bloc's inability to solve its crisis.
On Tuesday, European banking stocks slid, the euro fell below USD 1.40 to its lowest level since March and euro zone debt markets remained under intense pressure.
The ministers' statement was short on specifics but did offer clues about which direction the bloc is heading, and where Germany could be forced to compromise.
The Eurogroup said it stood ready to enhance the flexibility and scope of the European Financial Stability Facility, the rescue fund it set up last year, and ease the terms of EU
loans to Greece and possibly Portugal and Ireland.
So far, Merkel has staunchly resisted giving the EFSF powers to buy the bonds of weak euro members on the secondary market or to lend money to these countries so they can do the same.
Reversing course could be politically costly as some members of her coalition firmly oppose such a move. It could also undercut Finance Minister Wolfgang Schaeuble, who is peddling a separate proposal for a maturity-extending Greek bond swap.
But the bond buying scheme may be the cleanest solution for reducing Greece's debt burden -- something Schaeuble's scheme would not do unless it was coupled with some form of "haircut", or forced losses for private holders of Greek debt.
Berlin has made private sector participation a pre-condition for a new Greek package until now, but may ultimately be forced into a retreat on this point with no compromise in sight and markets deeply concerned about delays to urgently needed aid.
Guenther Krichbaum, a member of Merkel's Christian Democrats who heads parliament's European affairs committee, suggested to Reuters on Tuesday that Berlin's single-minded insistence on a private sector role may have reached its limits.
"It could worry investors, who could then pull back. Rates would go through the roof and a chain-reaction to other countries could not be ruled out," he said.
"At the end of the day, even in a coalition there has to be acceptance that certain things simply can't be pushed through at the European level."
Story continues below Advertisement
Nothing to gain
Deutsche Bank chief economist Thomas Mayer wrote this month that if political leaders did not offer bold new solutions, the outcome could be determined by grass-roots events -- a rebellion by Greek or German lawmakers, or a Greek bank run.
"Given the recent momentum in the political debate, we would give such an outcome over the coming 6-12 months the highest probability," he wrote.
But the higher the risk to the wider currency area, the more likely it is that Germany, and its hardline -- Austria, Finland and the Netherlands -- will back down and accept more solidarity in the name of preserving the euro.
European rates strategists at RBS said in a note on Tuesday that the time may not be quite ripe for Germany to change tack and accept greater fiscal union, in which the risks of individual euro states "morph into pan-Euro liabilities".
"It is the birth pangs of a new country -- based not on popular demand -- but a financial necessity -- and is unlikely to be seen until German politicians have no choice but to decide on the future of monetary union," they said.
That time appears to be getting closer by the day.
