Euro-zone leaders have narrowed their differences but remain well short of a deal to try to bring the debt crisis to a close, according to people familiar with the situation.
With a crucial leaders' summit planned for this weekend, France and Germany are split on whether the private sector should be required to make a significantly bigger contribution to Greece's second bailout package than was agreed in July, participants in the discussions said.
Agreement on a Greek deal remains hampered by Berlin's push for a much bigger hit to the private sector than what was tentatively agreed in July, the people said. France, the European Central Bank and the European Commission remain very skeptical of greatly increasing the exposure of private-sector lenders.
Meanwhile, there are doubts as to whether Berlin is prepared to sign off this weekend on a detailed leveraging-up of the European Financial Stability Facility, which could allow the fund to insure assets worth more than a trillion euros.
With differences still broad, French President Nicolas Sarkozy headed to Frankfurt late Wednesday to participate in an unscheduled informal meeting with German, European Union and International Monetary Fund officials, a spokesman for the presidency said.
Mr. Sarkozy will meet German Chancellor Angela Merkel and Finance Minister Wolfgang Schäuble, as well as the EU's Herman Van Rompuy and Jose Manuel Barroso and the IMF's Christine Lagarde. European Central Bank President Jean-Claude Trichet and his successor Mario Draghi are also there.
Recent days have seen top European officials sound the usual range of views on what to expect from this weekend's meetings of euro-zone and European Union finance ministers and leaders in Brussels.
On Wednesday, European Commission President Jose Manuel Barroso said the upcoming meetings must be a "turning point" and called this a "decisive" moment in European history. German officials have played down expectations, warning this weekend's summits are not going to be a one-shot solution for the region's 18-month-long debt crisis.
"We are making progress inch by inch," said one of the participants in the discussions. "Those who beefed up expectations of a major breakthrough in the European debt crisis will be disappointed."
Perhaps the biggest item on the agenda for this weekend is Greece and how much to reshape July's second bailout package. That deal saw the euro zone commit to a €109 billion ($149.9 billion) package while Greece's private creditors also took a hit which the Institute of International Finance, a leading lobby group, says is worth 21% of the value of their bond holdings.
Since meetings last month, Germany has been saying that deal needs to be revised and the private-sector contribution increased. France accepts the need for technical revision but French Finance Minister François Baroin said last week that talk of a 50% haircut would be "absurd."
"Germany has proposed up to a 60% haircut on private holders of Greek bonds. There is strong disagreement from France ... There are a number of scenarios being debated ranging from 30% to 50% writedown for private holders as part of the second Greek bailout package," said one senior euro-zone official involved in the talks. "
One euro-zone official said France, the European Commission and the ECB are all concerned that by requiring a larger haircut, the euro zone could trigger a major credit event that deepens the crisis at the region's banks and makes it even harder for the likes of Spain and Italy to get access to funding at a reasonable cost.
"We are … very concerned that we would not be able to prevent contagion," said the official. "If there is something more drastic for Greece on [private-sector involvement], the markets will then expect similar things for Spain and Italy." But Germany and the Netherlands are pushing for Greece's creditors to accept bigger losses. They argue that steep losses are needed to make Greece's debt burden sustainable.
There is also no agreement yet on boosting the firepower of the EFSF, although officials stress there is still time for ministers and leaders to hash out a deal by Sunday.
Mr. Baroin said his government believes the best solution to make the most of the firepower of the euro zone's bailout facility is to grant it a banking license with the central bank, a move both the ECB and Germany firmly oppose.
The Europeans committed to taking action at September's International Monetary Fund meetings in Washington to "maximize" the EFSF's effectiveness and the favored solution is to use the money left in the EFSF to insure investors against first losses on buying the bonds, officials say.
One person familiar with the situation said a reported number of €2 trillion hasn't been ruled but that it seems "excessive." One official said no number for the EFSF may be agreed on at all this weekend.
Euro-zone member states and the IMF have committed €440 billion to the rescue fund. However, there are already promised outlays to the three bailed-out euro-zone countries—Greece, Portugal and Ireland—as well as a pledge to use the fund in some way to recapitalize banks, although Germany insists the fund should only be used as a last resort to recapitalize financial institutions.
That could leave the EFSF with less than €300 billion available. At that level, even if it is leveraged up fivefold, it would be well short of the ability to insure assets worth €2 trillion.
Officials participating in this past weekend's Paris meeting of the Group of 20 industrialized and developing nations said there was talk of the EFSF guaranteeing 20% to 30% of new bonds issued by countries in distress, but European leaders are still unlikely to have an agreement on this by Sunday.
However the 17 euro-zone governments are believed to be much closer to agreement on a recapitalization of the banks that is likely to be based around core tier-one capital ratio of 9%. That would require the region's banks to raise at least tens of billions of euros or cut their balance sheets. But governments are still discussing what the definition of high-quality capital should be.
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