1 October 2017
The Bundesbank on 25 September 2017 reiterated what many fear could lead to a sudden stop of the European Central Bank's (ECB) large scale asset purchases: "The problem of the public sector securities purchases is that the central banks have become the largest creditors of the [Euro Area] member countries. The boundary between monetary and fiscal policy increasingly blurs."1 The pending verdict by the German Federal Constitutional Court (GFCC) regarding the incompatibility of the asset purchases with German law has gotten new momentum with the referral for several questions, as announced on 15 August, to the European Court of Justice (ECJ) for a preliminary ruling.2 A verdict by the GFCC attesting the unconstitutionality of the PSPP is likely, the consequences of which would be severe but not only for the ECB. The Bundesbank has for years financed governments through the International Monetary Fund (IMF). The GFCC therefore risks upsetting the very foundations of the international financial architecture.
The ECB purchases of securities as part of the Public Sector Purchase Programme (PSPP) within the expanded asset purchase programme (APP) has come under repeated legal scrutiny in Germany. Several suits were brought against the ECB's asset purchases by private complainants in Germany. The complainants claim that the PSPP violates the prohibition of government financing by the ECB and national central banks under the European Treaty (TFEU Article 123) and the principal of conferral.
Under the German constitution or basic law (Grundgesetz), the GFCC is obliged to ensure that the European integration agenda is respected, that is, that E.U. institutions do not evidently exceed their competences as if so found German state organs would not be allowed to participate in such acts. The GFCC affirmed that "significant reasons indicate that the ECB decisions governing the asset purchase programme violate the prohibition of monetary financing and exceed the monetary policy mandate of the European Central Bank, thus encroaching upon the competences of the Member States."3
The GFCC states as key considerations: i) the PSPP may not be compatible with the prohibition of monetary financing regardless of whether the purchases take place in the secondary market; ii) the PSPP may not be covered under the ECB's mandate as it can no longer be qualified as a monetary policy measure but is of an economic policy nature; and iii ) the implied risk sharing of the PSPP may infringe on the German Federal Parliament's (Bundestag) right to decide on the budget as losses arising from the PSPP could unduly incur fiscal resources.
The PSPP represents unambiguously government financing. It easily passes the "duck test": "If it looks like a duck, swims like a duck and quacks like a duck then it probably is a duck." The ECB by the mere fact of holding vast amounts of Euro Area government securities, EUR1,581 billion or 15 percent of Euro Area GDP at end-May is providing monetary financing to governments. Any court ruling attesting its legality under TFEU Art 123 would severely undermine the spirit of the law clearly meant to prohibit government financing by the ECB and national central banks.4
The PSPP seems to be outside the mandate of the ECB. While the delineation between monetary policy and economic policy is difficult if not impossible, there is no doubt about the economic effect and profound fiscal implications of the very large public securities purchases that can no longer be deemed solely a monetary policy measure.
The potential budgetary infringement through the PSPP is real. Losses under the PSPP that would have to be borne by the Bundesbank may in turn necessitate fiscal resources if such losses require a recapitalisation of the bank though its actual fiscal impact is likely overstated.5
However, the normal operations of the Bundesbank should offer the benchmark for any legal consideration. The Bundesbank has provided financing to governments as part of its obligations under the IMF for years. Under the IMF's transaction plan, the Bundesbank regularly extends financing to governments some of which are of course E.U. governments. While the amounts are small compared with the PSPP, they represent the basis for the financing operations of the IMF. They constitute direct financing and reimbursement is subject to default risk. The former would be inconsistent with the prohibition of government financing and the latter with the budgetary authority of parliament.
Central bank government financing and risks associated therewith have been around for a long time in one form or another. Monetary policy is hard to pin down in terms of the rule of the law and it seems the courts are exceeding their judicial competence in trying to do so.6 Monetary policy is subject to political decisions and political oversight. The international dimension of monetary policy practices also implies that any ruling may go against key principles established as part of the international financial architecture where they have been operating for decades. The GFCC may not rule on the principles but rather be guided by the magnitude of ECB financing operations and has in the past ruled in favour of the APP on the basis that its asset purchases were limited. Any adverse ruling by the GFCC now against the principles of such financing would be severe for the ECB with considerable international monetary and financial consequences. It would be a sheer calamity.
1 Die Zukunft der Eurozone—Erwartungen nach einem turbulenten Wahljahr, Joachim Wuermeling, Member of the Executive Board of the Deutsche Bundesbank, speech at the 20th Naspa Dialog, Wiesbaden, 25 September 2017.
2 Proceedings on the European Central Bank's Expanded Asset Purchase Programme are Stayed: Referral to the Court of Justice of the European Union, press release No. 70/2017, German Federal Constitutional Court, 15 August 2017.
4 See also e.g., "Central bank independence: from theory to practice," speech by Lorenzo Bini Smaghi, Member of the Executive Board of the ECB, conference Good Governance and Effective Partnership, Budapest, Hungarian National Assembly, 19 April 2007: "Any obstacle to the ability of central banks to affect market interest rates should be considered as an obstacle to their independence. An example of such an obstacle would be the obligation for a central bank to directly finance budget deficits, which would clearly reduce the ability to influence money market conditions in the direction it deems most appropriate for the pursuit of price stability. This is the reason why the Treaty establishes, in Article 101 [now TFEU Article 123)] that monetary financing of budget deficits is prohibited."
5 Central bank recapitalisation may in practice have very limited if any fiscal impact due to the nature of the likely chosen form of recapitalisation and accounting of actual impairment.
6 See separate opinion of Justice Lübbe-Wolff in Principal Proceedings ESM/ECB: Pronouncement of the Judgment and Referral for a Preliminary Ruling to the Court of Justice of the European Union, German Federal Constitutional Court, press release No. 9/2014, 7 February 2014.