News Colm McCarthy

Thursday 21 August 2014

Draghi's eurozone project needs Germany to lead from the front

Tragically out of their depth, but German judges could yet sink union

Colm McCarthy

Published 16/02/2014 | 02:30

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CAP IN HAND: Germany's Constitutional Court said earlier this month it had decided to refer a complaint against the European Central Bank's ‘unlimited’ bond-buying programme to the European Court. Reuters/Kai Pfaffenbach

The German ambassador to Ireland, Eckhard Lubkemeier, contributed a thoughtful piece on the outlook for the European project in Thursday's Irish Times. While conceding that the European Union's handling of the economic crisis has yet to bear fruit, he stressed the role which the EU plays as the 'guarantor of a Europe at peace'. This is timely in a year which marks the centenary of the outbreak of World War I and the 75th anniversary of the outbreak of the World War II. But it is unconsciously timely for a second reason.

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The previous week in Karlsruhe, the German constitutional court, the GCC, handed down a majority judgement which sows the seeds of continuing discord in the European Union and undermines Mario Draghi's key policy at the European Central Bank. This policy, called OMT for Outright Monetary Transactions, entails essentially the willingness of the ECB to buy eurozone governments' bonds in the secondary market.

It was introduced in August 2012 in order to prevent possible defaults in Italy and Spain, countries too large to rescue through official lending programmes. Bond rates in these countries had risen to 7 per cent or so, a quite unsustainable level, and there were no buyers. Since Italy and Spain are too big to fail, the survival of Europe's common currency area was on the line.

The ambassador must surely understand that the European public expects more from today's Germany than a commitment to peace.

The ECB policy worked, without a single Spanish or Italian bond having to be purchased. Bond market operators backed off: they are rightly wary of the central bank's ability to create euro and use them to purchase bonds in unlimited amounts.

The fear of possible eurozone exit by Italy, Spain or anybody else was extinguished, bond markets have calmed and Draghi has been credited with a necessary initiative which averted a Europe-wide, and quite likely worldwide, financial calamity.

Enter the lawyers, in the shape of the German Constitutional Court (GCC), a supreme court with some peculiar features. It is not the ultimate appellate court in the German legal system and is restricted to ruling on constitutional matters.

Elsewhere in Europe, supreme judicial bodies refrain from adjudicating on matters of EU law, acknowledging the authority of the Court of Justice of the European Union in Luxembourg. But the German court places itself above the European Court and purports to deem EU legislation, or the acts of the EU institutions, to be inconsistent with the German constitution, even where the European court deems them consistent with EU treaties to which Germany is a party. No other national supreme court in the EU interprets its role in this manner. In the specific case ruled upon last Friday week, the Karlsruhe court purports yet again to enjoin the German government and the German central bank, the Bundesbank, to desist from implementation of a European policy which no other national supreme court feels it can unilaterally veto.

The threat to Draghi's policy from the GCC judges was explained by Andrew Watt in the journal Social Europe as follows: 'The GCC has taken the view – on a 6-2 majority verdict – that a key element of the monetary policy of the ECB, the Outright Monetary Transactions (OMT) programme, is incompatible with European treaty and other legal provisions. It has sought clarification of a number of issues from the European Court of Justice (ECJ).

The GCC does not have jurisdiction over the ECB, of course. But it can rule that actions by German institutions (notably the Bundesbank but also the German government) in support of acts by the ECB that it has deemed illegal are themselves unconstitutional under German law and thus verboten. This is because the German constitution only permits the transfer

 

of national powers to the European level under specific conditions, and this includes that European institutions play by the rules, as interpreted by a majority among Karlsruhe judges.

The GCC, if I understand its judgement correctly, is inviting the European Court (verdict expected in March) to agree that the OMT policy is inconsistent with the EU treaties. Should it do so, the two courts will be of one mind, and all will be well, legally speaking.

The eurozone bond market, and possibly the eurozone, will be toast unless someone dreams up an alternative strategy pretty quickly. Apparently, the judges do not have to agonise over such mundane matters. But if, as is highly likely, the European Court concludes that the OMT is fine, then the German court will not fall in line.

It has already concluded that the OMT is incompatible with these treaties and will, it would appear, proceed to constrain the German government and the Bundesbank from implementing ECB policy. The bond markets have reacted calmly to the GCC announcement of February 7, apparently on the basis that the European Court will over-rule the Karlsruhe verdict. But the Karlsruhe court does not accept that it can be over-ruled.

The threat created by this extraordinary development should not be underestimated. Draghi's announcement of OMT, on which not a solitary euro has been spent to date, saved the eurozone from collapse. The reason the policy worked is because the markets were afraid to take on the central bank and it's worth understanding why. Markets have regularly made a monkey of central banks when they try to defend an unsustainable exchange rate.

They did it here in Ireland in late 1992 and early 1993, when Ireland had its own currency and foolishly tried to sustain a rapid appreciation against sterling. The Irish authorities ran out of foreign currency to buy the huge volume of punts that were offered, and duly capitulated with devaluation.

But Euroland's central bank cannot run out of euro, and can buy euro-denominated bonds forever. So Draghi's OMT threat was credible, and never had to be used for precisely that reason. Each eurozone member has, according to Karlsruhe, the capacity to veto activation of the ECB's bond-buying threat, since the rules require a unanimous vote from the member states.

The GCC has pulled the rug out, whatever the verdict, from the European Court, now no longer the competent authority on European law when viewed from the provincial capital of Baden in southwestern Germany. The markets will come to terms with this lawyers' coup in due time.

The essence of the pronunciamento from the Karlsruhe Six is that Germany will proceed as if each European country is entitled to paddle its own constitutional canoe, and that none is large enough to offer leadership out of the current mess. This is a reasonable attitude for Malta, or Luxembourg, or indeed Ireland. It is a frightening abdication of responsibility by the Bundesrepublik, the last man standing in the euro-debacle.

The GCC has not passed a decision on the legality of the European Central Bank's policy over to a higher court. It has deemed OMT to be illegal under German law, and has invited the European court to concur, which it is unlikely to do. A stand-off between the national constitutional court in the most important member state and the ECJ is an appalling vista.

The credibility of Mario Draghi's monetary policy innovation of August 2012, which saved the eurozone from collapse, has been undermined by the highest court in Germany, staffed up by a group of people tragically out of their depth. The ECB has not exactly covered itself in glory since the crisis broke.

But the notion that the defining response to the existential crisis of the common currency is to be determined by a majority among eight lawyers in the rural isolation of Baden is an astonishing twist to the story of Europe's peace project.

It is natural and inevitable that people all over Europe should, in this centenary year, remember the legacy of Germany's ambitions to dominate the continent. The real and present danger is quite different.

The Bundesrepublik is turning into a self-obsessed small state and is opting out of European leadership which, in current circumstances, only Germany can provide. Europe cannot be ruled from Berlin. But it can be led. German politicians have the responsibility to lead, change the German constitution if needs be, and campaign for a new EU treaty. And quit hiding behind lawyers pontificating about monetary policy.

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