Can the European Central Bank legally act as lender of last resort to ensure the survival of the euro?
This question is of fundamental importance for the sustainability of the monetary union. Recently, the German Constitutional Court ruled that it cannot. In the court’s view the ECB has the power to conduct monetary policy, but not to support member states in financial distress even if necessary to ensure the survival of the common currency.
It follows that the ECB’s announcement of September 2012, to buy the sovereign debt of member states on secondary markets in unlimited amounts to fend off speculative attacks against individual member states (outright monetary transactions, or OMT), may be beyond its powers, or ultra vires.
But does the German Constitutional Court have the legal power to decide this question?
The ECB is a European entity created by European law. The European Court of Justice (ECJ), not the German Constitutional Court, has the power to review the legality of its actions. Still, the majority of the German court believes that it can decide whether ECB actions violate German constitutional law, and as a result that it can compel the German government to rectify this or risk committing unconstitutional acts on German territory. It’s worth noting that the minority argued that the court’s ruling exceeds its powers and that it should have left any response to the ECB’s actions to the democratically elected German government.
In the end, the German court referred the case to the ECJ for a preliminary ruling on the legality of the OMT program under European law. This has been widely interpreted as conceding the supremacy of European law.
But this is far from the truth. The German court reserved the right to declare the ECB’s act unconstitutional unless the ECJ agrees with a narrow interpretation that conforms to German constitutional principles as defined by the court.
So under the ruling, any implementation of liquidity support should serve monetary, not economic, policies. OMT should reinforce conditionalities imposed on member states asking for help from the European Stability Mechanism, not undermine them. Market forces, not the ECB, should determine the interest rates member states pay on their debt. And last but not least, OMT should be limited – not unlimited, as announced by the ECB.
Taken together, this effectively rules out any sustained lender of last resort functions of the ECB.
It’s tempting to dismiss the decision as incomprehensible legalese or the inability of justices to understand that contemporary financial systems rely on a powerful lender or dealer of last resort to weather financial crises. But that misses the crucial point: this is a question of the ultimate power to decide, a question that cuts to the core of sovereignty.
The European Monetary Union did not include an emergency regime in order to leave no doubt about the Euro’s durability. This is now putting the currency’s future at risk. The unbending pursuit of legal commitments, irrespective of intervening events – such as the scale and scope of the global financial crisis – can put any system on a path to self-destruction. This is where the euro was headed prior to the ECB’s announcement of the OMT.
This outcome can be avoided by temporarily relaxing the full force of the law. Critically, whoever gets to decide this question is the ultimate wielder of power. In the old days of European monetary coordination (the ‘currency snake’ of the European Monetary System) this was invariably Germany. As former chancellor Helmut Schmidt put it to the Bundesbank in 1978, “ultra posse nemo obligatur” (No one is obligated beyond what he is able to do). And where the ultra posse lies one decides for oneself”; in this case, by breaching treaty law.
Mario Draghi’s announcement that the ECB would do “everything it can within its mandate” to support the euro effectively asserts the ECB as the ultimate power wielder. Not surprisingly, this is viewed with great scepticism, especially in Germany. Bundesbank President Jens Weidmann supported the current constitutional claim. By taking recourse to the German judiciary he conceded that short of exiting the Eurosystem, Germany, or its central bank, no longer has the unilateral power to determine where its obligations end. The Constitutional Court’s expansive interpretation of its own jurisdiction can be seen as an attempt to regain it.
Viewed in this light, the preliminary referral to the ECJ is window dressing. It’s a friendly gloss on the quest to be the ultimate power in the euro’s survival.
