Note: Today is the sixth in a series of posts that detail Eurasia Group's Top Risks for 2013

While the immediate crisis has subsided, risk still emanates from Europe in 2013. First, the process of institution-building to address the flaws of the eurozone structure will continue to be halting, especially in light of major elections in Italy and Germany. And second, many eurozone countries face recession or stagnation, which could test the eurozone structure in new ways.

To be clear, as in 2012, the risk of a eurozone break up is minimal, primarily because the European Central Bank has made clear it will do whatever it takes to preserve the euro. But the muddle-through approach presents risks in 2013, just as it did in 2012.

Germany heads to the polls in September. While Chancellor Angela Merkel has gained the strong backing of the German public for her handling of the eurozone crisis, the current government will be loath to contemplate any major new institutional or funding moves that might upset the careful balance she has struck. The most pressing concerns are policies allowing the direct recapitalization of eurozone banks and the building of an ambitious fiscal and banking union.

Italy holds elections on February 24-25 in which anti-austerity and populist parties could win more seats. Such a government would likely struggle to provide political stability, the reform drive could suffer, and financing costs could again rise.

Beyond the political calendar, a number of factors could test the temporary eurozone equilibrium. If France fails to hit budget deficit targets, President Francois Hollande's government will probably have to enact additional spending cuts and some tax hikes. Spanish Prime Minister Mariano Rajoy is unlikely to ask for financial assistance from the eurozone's new permanent bailout fund absent market pressure. But should that pressure arise, Spain would ostensibly have to agree to reform commitments stipulated by the ECB's agreement to purchase the country's bonds in the secondary market. Those commitments are likely to be met with resistance in hard-hit Spain, putting the ECB in a quandary: If Spain refuses to meet the conditions, does the ECB loosen its requirements, potentially encouraging moral hazard in other member states, or does it insist on reforms and potentially withhold assistance that could cause a new conflagration in the eurozone?

Later this week, we'll profile Risk #7: East Asian geopolitics.

Eurasia Group's weekly selection of essential reading for the political risk junkie-presented in no particular order. As always, feel free to give us your feedback or selections @EurasiaGroup or @IanBremmer. 

Must-Reads

1. "Al Qaeda 3.0: Terrorism's Emergent New Power Bases"
Bruce Riedel, The Daily Beast

In a world where international governance is breaking down, leaders are focused more on domestic than on foreign policy challenges. This trend extends to al Qaeda, an organization transitioning from global to local goals.

2. "India's African ‘Safari'"
Sudha Ramachandran, The Diplomat

We hear a lot about the US and China's conflicting investment approaches in Africa, but there's precious little written on Africa's fourth largest trading partner: India. With trade increasing by a factor of 17 over the last decade, India-Africa relations are becoming much more interesting. 

3. "How Crash Cover-Up Altered China's Succession"
Jonathan Ansfield, New York Times

How will Beijing's leadership manage the challenges that come with an era of more open information? What will the rest of us learn about the Chinese leadership's taste in cars, clothes and once-hidden power politics?

4. "Merkel's mastery of politics"
Michael Fry, The Scotsman

Is Angela Merkel the most talented politician in the world?  Her domestic political tactics shed light on her policies with regard to the Eurozone and beyond. 

5. "A free-trade agreement with Europe?"
David Ignatius, The Washington Post

Though still on the drawing board, the Trans-Pacific Partnership has far-reaching security and economic implications for North America and the Asia Pacific region.  Progress on an Atlantic equivalent seems beyond the horizon. But is an ‘economic NATO' already in the planning stages? 

6. "The mother of all worst-case assumptions about Iran"
Stephen M. Walt, Foreign Policy

Would a nuclear Iran carry "shattering geopolitical significance?" This piece overstates its case at times, but it's a question that demands consideration.

The Weekly Bonus:

"Floating Housing (And Golf Courses) For Post-Climate-Change Island Paradises"
Co.EXIST blog, Fast Company

In a G-Zero world, don't expect political leaders to tackle climate change. An ineffectual climate summit meeting in Doha this week makes that all the more obvious.  If climate change continues unabated, the Maldives will end up underwater.  The government knows it, hosting a cabinet meeting on the ocean floor in full scuba gear in 2009, and inquiring about land purchases abroad. But even the most daunting risks come with opportunities, however whimsical they may seem.

By Carsten Nickel

"It's not for Germany to decide for the whole of Europe," Francois Hollande, the socialist candidate favored to win the presidential run-off, reminded Chancellor Angela Merkel on French TV last week. Gone seem the days of the "Merkozy" era when Merkel decided that austerity was the way forward out of the euro crisis -- and President Nicolas Sarkozy followed suit. With much of Europe caught in recession and political opposition from Paris on the rise, the question is: Is the austerity doctrine coming under pressure in Germany? The answer is: Probably not.

A growth-versus-austerity debate has already kicked off in Germany and is set to further intensify over the next few weeks. The second round of the French elections, Greek parliamentary elections, and elections in the German federal state of Schleswig-Holstein -- all held on May 6 -- will amplify the pressure on Merkel. After Hollande's strong display in the first round of the French presidential elections, the German Social Democratic Party (SPD) congratulated its French counterpart and told Merkel that it would delay the ratification of her prestige project, the European fiscal compact, because it was lacking the growth component demanded by Hollande. The chancellor, notoriously inclined to political U-turns, quickly began proclaiming growth-enhancing policies as the "second pillar" of her eurozone strategy. German commentators saw her encircled by advocates of fiscal expansion.

But the current noise should not be overestimated. Germany's overall preference for fiscal prudence is likely to prevail because of two factors. The first is the political weakness of the opposition, providing Merkel with a strategically comfortable position at the center of German politics. The second is the country's coordinated market economy, which prioritizes supply-side adjustments to limit wage restraint; expansionary policies would abet inflation and wage growth.

Social Democrats might perform well in the upcoming state elections, but the party's program regarding the euro crisis remains shallow, while public support for expansionary policies stays weak. Moreover, voters have not forgotten that it was former chancellor Gerhard Schroeder's SPD government that introduced the supply-side reforms to Germany, which Merkel now wants to prescribe to the rest of Europe. Meanwhile, the rise of the internet activists' Pirate Party diminishes the chances for a coalition of SPD and Greens after the 2013 Bundestag elections. And the chronic weaknesses of Merkel's coalition partner, as well as her own high personal approval ratings, provide her with much political leverage.

Merkel will pragmatically co-opt growth rhetoric over the next few weeks, and the opposition might delay ratification of the fiscal compact, both of which the SPD will sell as a success. But the party will not demand substantial growth-enhancing policies in return for their support of the compact in the Bundestag, and Merkel has already spelled out what her agenda for growth looks like: Enact labor market reforms, increase the pension eligibility age, and liberalize your economies, she told European partners. Not quite the expansionary policies many German commentators saw forthcoming.

Germany's coordinated market economy is behind its recent economic success and its resistance to spend. In key sectors such as the automotive industry, organized workers and employers bargain without political interference. Firms offer generous welfare schemes and job security, receiving highly skilled manual workers and-crucially-wage restraint in return. Germany's answer to rising competition from Asia has been to increase productivity in a coordinated effort. With Germans unwilling to see their export surpluses as a key factor behind the eurozone's woes, their preference for austerity is here to stay.

Carsten Nickel is an analyst with Eurasia Group's Europe practice.

By Scott Rosenstein

Saving lives is an easy policy to defend. And advocating saving lives is an easy way to roll out policies that might otherwise be considered opportunistic. The ongoing E. coli outbreak in northern Germany is no exception. To be sure, the situation is grave. To date, 24 people have died and more than 2,400 have gotten sick. The outbreak has also destroyed livelihoods: Spanish cucumber farmers, wrongly identified as the source of the outbreak, have estimated losses of $280 million per week, while vegetable sales throughout Europe have plunged. The source of the outbreak has yet to be identified, spawning further anxiety and economic dislocation. But official responses to the crisis may be more self-serving than well-guided.

On 2 June, Russia announced that it was banning imports of fresh vegetables from the entire EU region. The Russian ambassador to the EU defended the move, saying: "I can certainly understand the grievances of EU farmers and I sympathize, but you can certainly understand no material loss is comparable to the loss of human life." His plea is hard to bicker with, but from an epidemiological standpoint the ban is provocative. All the E. coli cases recorded in the past month can be traced to northern Germany, suggesting that the contaminated food (regardless of where it originated) has been confined to that region.  

So why is Russia taking such an aggressive stance? While health concerns may be part of the story, the primary drivers are likely economic and/or political . The EU exported $853 million worth of vegetables to Russia last year, with very few Russian vegetables making their way into the EU. Some observers have alleged that this imbalance motivated Moscow's move. Russia's chief sanitary officer, Gennadiy Onishchenko, dismissed that accusation but, in a bid to undercut international criticism of his country's health sector, said on June 2 that the outbreak proved that "European health legislation, as some press Russia to adopt, does not work."

Russia's ban may or may not work itself. The country's vegetable trade imbalance with the EU is partly attributable to the generous agricultural subsidies that EU farmers enjoy and that stifle competition from abroad. The ban will do little to convince EU policymakers to rethink those subsidies, and in fact, may reinforce support for them. The EU just announced a $210 million aid package for farmers affected by the E. coli outbreak, and more money may get passed around if farmers continue to suffer. Moreover, if the outbreak is past its peak, as some German officials are cautiously suggesting, and if Russia's ban threatens to distract from the upcoming Russia-EU summit, starts to jeopardize Russia's hopes of joining the WTO, or bumps up the price of vegetables at home, Moscow will likely backtrack.

Nevertheless, the world's convoluted food supply chain will continue to create complicated, costly, and sometimes deadly food safety scandals. And while some responses will be grounded in caution and scientific rigor, officials will also continue to take the opportunity to curry favor with domestic constituencies. In the coming weeks, particularly if the outbreak continues spreading, both tactics will likely be on display. Keep an eye on:

• Trade tension. Countries like Bahrain, Qatar, and the UAE have imposed selective bans on European vegetables. These won't seriously affect the EU vegetable market, but copycat bans could follow if the outbreak continues; if governments want to signal, justifiably or not, that they're being proactive; or if officials are tempted to promote local producers.

• U.S. food safety regulation. The United States is debating whether to fund recently passed food safety legislation. The E. coli outbreak could galvanize support for such funding, although Republicans would likely only back it if the outbreak ripples throughout the United States-a low-probability scenario.

• Organic farming regulation. If it turns out that an organic farm was responsible for the outbreak, as has been suggested, calls for further regulation of organic farms in the EU and a decrease in consumer demand for organic foods could follow.

Scott Rosenstein is an analyst in Eurasia Group's global health practice.

By Eurasia Group's Europe practice

It hasn't been an easy year for Europe, and 2011 doesn't look much better. Hopes that a rescue package for Ireland would halt the debt crisis contagion have been dashed -- Portugal, Spain, Italy, and Belgium already face market pressure, and if the situation deteriorates, the European Union and IMF are likely to push for some form of structured assistance to Portugal. It may not end there. Italy and Belgium could be the next to face bond market problems, and non-eurozone countries like Hungary and Romania could face growing scrutiny about their finances. Eurozone watchers are already questioning the ability and willingness of core eurozone countries (particularly Germany) to spend additional bailout money beyond the current European Financial Stability Facility (EFSF) commitments that would be required. Such concerns raise both existential and tactical questions about the longer-term viability of the euro.

If countries abandon the euro, everybody loses. That scenario isn't a significant risk at this point, but some countries face the real prospect of restructuring and/or default, and they'll be much poorer following internal devaluation and/or a bout of domestic deflation. The next few years will be particularly tough for Greece, Ireland, Portugal, Spain, and Italy. In broader terms, there's a clear North-South divide emerging. Southern countries, in both Western and Eastern Europe, face a variety of challenges ranging from fiscal policy to macroeconomic rebalancing and competitiveness that will be extremely difficult to overcome in the short term. We've already seen social unrest in several countries as a result, and we'll see more in 2011.

In the broadest sense, the process of EU convergence has been thrown into reverse. For capital markets, this means that yields on bonds issued by non-core members are no longer converging to the lower rates that markets give core members. The widening spreads are obvious not only in peripheral eurozone countries like Greece, Ireland, Portugal, and Spain, but are also showing up among non-eurozone EU member states like Hungary, Romania, and Bulgaria. This divergence comes from two sources: a decline in the belief that the European Union will provide universal bailouts within the eurozone, and doubts among market players about the strength of political enthusiasm in Eastern Europe (where bond spreads have stabilized for now) for adopting the euro.

In 2011, the idea of an ever-closer union will provoke deeper skepticism than we've seen in years, but the European Union has an opportunity to use this crisis to build support for the sorts of reform that only crisis can make possible. Policymakers are working along three tracks. First, they want to establish a permanent crisis resolution mechanism -- an extension of the EFSF that includes some form of burden sharing with private investors. The second element would consist of fiscal reforms that actually enforce growth and stability pact targets that have been ignored in several capitals for many years. The third part would involve macroeconomic rebalancing, with a focus on labor market and judicial reforms to improve economic competitiveness. But during the European Council summit in mid-December, leaders made only limited commitments to take these issues head on, and more talks will be necessary in coming months. They did agree, however, on a permanent mechanism to help eurozone nations crippled by debts. Market players need a lot more detail on how the crisis mechanism will work, but it's a step in the right direction. Monitoring and enforcing fiscal targets will be more straightforward, with some enhanced penalties and European Commission oversight rules.

Then there's the need to make several European economies much more competitive. Belief in the ability of the European Union to force true macroeconomic rebalancing requires faith in the political will of both Brussels and core eurozone countries to push through systemic changes that will generate lots of pain. Selling those changes, and persuading crisis-weary publics to accept that the pain will last well beyond 2011, will prove the biggest challenge of all.

This post was written by analysts in Eurasia Group's Europe practice.

By Eurasia Group analysts Irmak Bademli and Wolfango Piccoli

Turkey's ailing bid for EU membership will face greater difficulties following the win of the Christian Democratic Union (CDU) and the Free Democratic Party (FDP) in Germany's recent elections. The FDP's replacement of the pro-Turkey Social Democratic Party (SPD) will allow Chancellor Angela Merkel, who has long favored a "privileged partnership" rather than full membership for Turkey, to become more vocal in her opposition to Ankara's EU entry. Meanwhile, Cyprus remains a major obstacle in Turkey's path to EU membership.

The SPD's exit from power was a major loss for Ankara, which now faces skeptical governments in both Paris and Berlin. The party had been instrumental in tempering Chancellor Merkel's anti-Ankara views during her first term in office from 2005 to 2009. While the FDP's victory does not rule out Turkish membership, leading figures in the party recently said that they do not think Turkey is ready for EU membership due to "major deficits" in Ankara's efforts to meet the EU's criteria.

In the near term, however, the changeover in Germany will not bring a total breakdown in Turkey-EU talks. The ongoing negotiations over Cyprus are entering a delicate stage and Merkel, like other EU leaders, wants to see them succeed.

At the end of 2006, Turkey's refusal to extend its customs union agreement with the EU to Cyprus led the EU to freeze talks over 8 of the 35 policy chapters that each candidate country has to negotiate to become eligible for membership. This fall, the EU will review Turkey's progress in its accession negotiations, in particular focusing on the Cyprus issue. If Turkey has not complied with its customs union obligations by the time the EU carries out its review, some anti-Turkey member states could put pressure on the EU to take sterner action. The European Commission, for its part, is expected to bury its review of the freeze within its larger annual report on Turkey's progress, which will be issued on 14 October.

The EU's options to deal with noncompliance are not clearly spelled out, but they could range from a mild rebuke to further sanctions. A full-suspension of talks, however, is not on the table this year -- despite calls from the Greek Cypriots to punish Turkey if it continues to ignore its obligations. Little progress has been made in the Cyprus negotiations, which began in September 2008, and the failure to reach a settlement by early 2010 could bring a total breakdown in Turkey-EU talks.

While it is hard to trace a sense of urgency on the Greek Cypriot side, the April 2010 presidential elections in the self-declared Turkish Republic of Northern Cyprus (TRNC) are generally regarded as a deadline for the reunification talks. Without a settlement, the present incumbent Mehmet Ali Talat may lose his seat in April 2010 and be replaced by a president less supportive of a settlement. This development will further complicate the already difficult negotiations.