Germany’s constitutional court has threatened to block fresh purchases of German bonds through the European Central Bank’s flagship stimulus programme, potentially weakening the bloc’s monetary policy response to the coronavirus crisis.
The court on Tuesday ordered the German government and parliament to ensure that the ECB carried out a “proportionality assessment” of its vast purchases of government debt to ensure that their “economic and fiscal policy effects” did not outweigh its policy objectives, and threatened to block new bond-buying unless the ECB did so within three months.
In recent weeks the ECB has vastly expanded its quantitative easing programme of bond-buying to mitigate the economic consequences of coronavirus. It has bought more than €2.2tn of public sector debt since launching QE in 2014 in an attempt to halt a slide in inflation.
The bond-buying programme has long been controversial in Germany, where critics argue the central bank has exceeded its mandate by illegally financing governments and exposing taxpayers to potential losses.
Ruling in a long-running case about the legality of the bond-buying, the court in Karlsruhe said the German government and parliament had "a duty to take active steps against" QE "in its current form".
The complainants — a group of about 1,750 people, led by German economists and law professors — first brought their case in 2015. They argued that the ECB was straying into monetary financing of governments, which is illegal under the EU treaty.
The case was referred to the European Court of Justice, which ruled in favour of the ECB in 2018, but it went back to the German constitutional court, which on Tuesday rebuffed part of the ECJ’s earlier ruling, calling it "untenable from a methodological perspective".
The German court laid out a long list of reasons why the ECB may have exceeded its mandate in a decision published on its website, but said it could not decide if the ECB had broken EU law without more information on how the central bank balanced the economic and fiscal impact of its actions against its monetary policy aims.
"Unless the ECB provides documentation demonstrating that such balancing took place, and in what form, it is not possible to carry out an effective judicial review as to whether the ECB stayed within its mandate," it said.
Clemens Fuest, head of the Ifo economic institute in Munich, said the German court’s dismissal of the earlier ECJ ruling "reads like a declaration of war".
The euro fell by 0.7 per cent against the dollar — its lowest level in a week — and the ruling sparked a sell-off in Italian government bonds as investors worried about potential constraints on the ECB’s ability to expand its debt purchases. The spread between 10-year Italian and German borrowing costs — a key measure of country risk in the eurozone — widened by 0.2 percentage points to 2.5 per cent.
The decision may open the door to legal challenges against the ECB’s new €750bn pandemic emergency purchase programme (PEPP). The court did not rule on PEPP but it said the earlier bond purchases were only acceptable because of a number of limits that had subsequently been eased under the new programme. The plaintiffs are expected to consider whether to bring a fresh case.
“This is the big risk,” Vítor Constâncio, former vice-president of the ECB, said on Twitter, saying the court had made a “ridiculous distinction between monetary policy and economic policy”.
"New court cases will come immediately in Germany against PEPP," he warned.
"This is another barrier to solidarity during the Covid crisis," said Rabobank strategist Richard McGuire. "We knew there was a political hurdle to sharing the costs between eurozone members — now there’s a legal one too."
Most observers had expected the court in Karlsruhe to grudgingly accept that the ECB’s purchases of government debt were legal, and the court said that it “did not find a violation of the prohibition of monetary financing of member state budgets”. It added: "The decision published today does not concern any financial assistance measures taken by the European Union or the ECB in the context of the current coronavirus crisis."
When the ECJ approved QE in 2018, it cited the ECB’s self-imposed limits on sovereign bond purchases in justifying its decision. These limits include a commitment to buy sovereign bonds only in proportion to each country’s economic size — as measured by its contribution to the central bank’s capital — and not to buy more than a third of any country’s total eligible debt.
But when it launched the PEPP, the ECB said it would waive the issuer limit and exercise flexibility on the capital rule and promised to consider further revising the limits if needed.
Analysts at ABN Amro said: "Theoretically, the ECB [or] another national central bank could step in to purchase the target for German public sector assets or even the stock, though that is complicated as there is no risk sharing when it comes to government bond purchases."
In a statement the ECB said that it was "analysing the ruling and will comment in due course"; its governing council is due to discuss the ruling on Tuesday evening. The Bundesbank declined to comment.
Eric Mamer, spokesman for European Commission, said: "Notwithstanding the analysis of the detail of the German constitutional court's decision today, we reaffirm the primacy of EU law and the fact that the rulings of the European Court of Justice are binding on all national courts."
(Published by Financial Times, May 5, 2020)
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