German Chancellor Angela Merkel said Europe's banks should look first to raise money in the private sector before turning to governments to bolster their financial cushions against potential losses from the continent's sovereign debt crisis.
An upcoming summit of the bloc's 27 leaders should send a "signal" regarding a coordinated recapitalization of Europe's banking sector to ensure the "real economy keeps functioning," Merkel said Friday at the chancellery in Berlin, speaking alongside visiting Dutch Premier Mark Rutte.
Speculation that Europe is looking at a coordinated plan to put more money into its shaky banking sector to withstand a possible government bond default by Greece has helped stock markets rally over the past couple of days, following a dismal start to the week.
Merkel said a recapitalization, if necessary, will have to follow a clear "hierarchy," with banks being pushed first to seek fresh private investment. Governments, in turn, would have to rely on their own resources before turning to the eurozone's bailout fund, the European Financial Stability Facility.
"First the banks have to try themselves to get capital. If that approach fails, then the member states' government institutions will take action, just as we have done in 2008, 2009," she said in a reference to the capital injection some banks received during the financial crisis.
"And only then, when a country can't manage this on its own, may the EFSF facility be used," she added, saying that any assistance from the euro440 billion ($590 billion) EFSF would only be granted with tough strings attached.
Merkel met earlier with Eurogroup Chairman Jean-Claude Juncker behind closed doors.
The chancellor had already spoken out in favor of a coordinated recapitalization of Europe's banking sector on Wednesday, and again Thursday following talks with the head of the International Monetary Fund, Christine Lagarde.
Rutte, whose parliament on Thursday became the latest to approve an expanded eurozone bailout fund, said he agreed with Merkel that the EU leaders should discuss the issue at their Oct. 17-18 summit in Brussels.
"It is obvious that there won't be a panacea that will pull us out of the crisis, this is a long-term issue," Rutte said.
The IMF, a key player in the 17-nation eurozone's debt crisis, said banks across the continent need up to euro200 billion ($267 billion) in new capital.
Some of that money could come from private investors via capital increases, but analysts expect that governments may have to put up significant amounts.
The EU disputes the IMF's estimate, but has been warning that lending between banks and from banks to businesses is threatening to freeze up. Banks are afraid to lend to each other for fear they won't get paid back.
Some analysts have warned that this freeze could soon create conditions similar to the aftermath of the collapse of U.S. investment bank Lehman Brothers in 2008. That choked off lending to the wider economy and caused a deep recession.
Merkel refused to give a price tag to a possible new round of bank recapitalization, saying it was up to the European Banking Authority to determine.
"We all know that the banks have to function so that the real economy keeps functioning," she said.
French President Nicolas Sarkozy is meeting the IMF's Lagarde on Saturday in Paris, a day before he is set to meet Merkel in Berlin to forge a joint position on the next steps in the continent's debt crisis ahead of the EU summit.
Meanwhile, Angel Gurria, the head of the Organization for Economic Cooperation and Development, warned European leaders that they need to have the appropriate solutions in place before they publicly name banks that need more capital.
"You can't just leave it like that, to say, 'So-and-so bank, oh, they need five billion.' Well, if you don't do something about that right now, the next day you have people lining up in the streets, like they did with Northern Rock not too long ago, saying I want my deposits," he said at a separate meeting in Berlin.
Lender Northern Rock was Britain's first bank to be badly hit by the financial crisis, setting off panic that sent customers lining up to retrieve their assets, eventually leading to the bank's nationalization in February 2008.
The European Central Bank on Thursday said it would offer 12- and 13-months credits to banks, an unusually long duration that gives the lenders a chance to shore up their finances through early 2013. That could potentially give political leaders more time to make them strengthen their capital cushions.
The ECB also said it would keep offering unlimited credit for its shorter-term loan offers of one week to three months. Central banks can serve as lenders of last resort when banks cannot borrow normally from each other. Some of Europe's banks have been dependent on ECB financing for months.
David McHugh in Berlin contributed reporting.