The eurozone is now in "meltdown territory," with the likelihood of fringe states returning to the market on decline, according to Paul Krugman. Responding to a new column from Martin Wolf in the Financial Times, Krugman says that the region is now at the "panic stage" over its banks.

Martin Wolf's column describes how the eurozone has gotten itself into this mess:

If this is a true currency union, a deposit in any eurozone bank must be the equivalent of a deposit in any other bank. But what happens if the banks in a given country are on the verge of collapse? The answer is that this presumption of equal value no longer holds. A euro in a Greek bank is today no longer the same as a euro in a German bank. In this situation, there is not only the risk of a run on a bank but also the risk of a run on a national banking system. This is, of course, what the federal government has prevented in the US.

If that wasn't stark enough, Wolf's vision for what will happen to the eurozone in the event of a restructuring event should be.

Debt restructuring looks inevitable. Yet it is also easy to see why it would be a nightmare, particularly if, as Mr Bini Smaghi insists, the ECB would refuse to lend against the debt of defaulting states. In the absence of ECB support, banks would collapse. Governments would surely have to freeze bank accounts and redenominate debt in a new currency. A run from the public and private debts of every other fragile country would ensue. That would drive these countries towards a similar catastrophe. The eurozone would then unravel. The alternative would be a politically explosive operation to recycle fleeing outflows via public sector inflows.

Wolf says the decision is now between the default of a fringe state, and a retreat from the fringe, or long-term support of those countries' debt positions.

As we've said before, the goal of eurozone leaders is to get to 2013, and then figure out how to use the new European Stability Mechanism to provide support, force haircuts, and begin a process of long-term support in an organized manner. But political obstacles to this outcome are huge, and European leadership is failing to rally public support around the euro to defend it against this existential threat.

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