European nations must share past debts to lift the burden of high interest rates on Spain and Greece and implement a banking union with deposit insurance to prevent capital flight, said Nobel Prize-winning economist Joseph Stiglitz.

“If you don’t do that, you have this adverse dynamic: the weak countries get weaker and the whole system falls apart,” Stiglitz said today in an interview in Geneva. “And this has to be done fairly quickly” because in a couple of years, “there won’t be any money in Spanish banks.”

Europe is facing a crisis-fighting stalemate amid discord over a banking union, Greece’s debate on how to meet bailout commitments and foot-dragging by Spain on a possible aid bid. European Union President Herman Van Rompuy warned today against “a tendency of losing the sense of urgency” in fighting the debt crisis three years after it erupted in Greece.

“You have to have some form of mutualization of past debts,” said Stiglitz, 69, who served as chairman of President Bill Clinton’s Council of Economic Advisers from 1995 to 1997.

Delaying the implementation of a banking framework will see the situation in Europe deteriorate, he said.

“The Spanish banks will be very weak if you wait that long,” he said. “The system may fail completely or lending will become so constrained that the economy will go further down and you’re involved in a vicious downward spiral. Things are bad now, and they’re going to be getting worse.”

Failure to act will produce “uncertain political consequences,” according to Stiglitz, author of a new book entitled, “The Price of Inequality: How Today’s Divided Society Endangers Our Future.”

He isn’t optimistic because Europe’s policy makers lack urgency and continue to focus on austerity.

“I haven’t heard from the critical people in Germany and France that, no, austerity isn’t going to work, that we need a new strategy, that we need a political settlement,” he said.

Stiglitz said the one thing that gave him hope was policy makers’ repeated commitment to the euro.

[Bloomberg]