Germany’s top judges prepare to deliver verdict on ECB bond purchases
Verdict of Karlsruhe court could have profound legal consequences for Bundesbank
Germany’s constitutional court will on Tuesday announce its verdict on whether the European Central Bank’s purchases of public sector debt have breached the country’s law.
While most observers expect the court in Karlsruhe to grudgingly accept that the ECB’s purchases of government debt are legal, the possibility that it could rule against them raises the slim chance that it may trigger a serious crisis in eurozone monetary policy.
The ECB has bought more than €2.2tn of public sector debt since launching its quantitative easing (QE) programme in 2014 to try and stop inflation falling below its target. However, the QE programme has always been controversial in Germany, where critics argue the central bank has exceeded its mandate by illegally financing governments and exposing taxpayers to potential losses.
What is the background to this case?
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 by buying bonds of eurozone governments in the secondary debt market, the ECB was straying into monetary financing of governments, which is illegal under the EU treaty.
In July 2017 the court said it was “doubtful whether [QE] was compatible with the prohibition of monetary financing” and referred the case to the European Court of Justice in Luxembourg.
In December 2018, the ECJ found in favour of the ECB, saying that QE as currently designed was legal. The German constitutional court was due to deliver its final verdict in March, but this was delayed until Tuesday because of the coronavirus pandemic.
Last year, the German court’s president Andreas Vosskuhle said it could only disregard an EU ruling if it was “arbitrary and gravely unreasonable” — which ABN Amro analysts said “looks like a high bar”. But Mr Vosskuhle steps down on Wednesday, making some wonder if he wants to go out with a bang.
What happens if the court rules against the ECB?
The ECB is expected to continue taking its lead from the ECJ ruling that QE is legal and can continue. But the way QE works in the eurozone is that each country’s sovereign bonds are bought by its own national central bank with funding from the ECB.
Germany’s Bundesbank is expected to follow the ruling of its own constitutional court, meaning the central bank of the biggest eurozone economy would no longer be able to buy its bonds. One practical solution would be for the ECB or another national central bank to buy German sovereign bonds instead.
But as Frederik Ducrozet, strategist at Pictet Wealth Management, says, such a move “would be a bombshell calling into question the singleness of monetary policy and the viability of the monetary union”. In this scenario, he predicted that the German government would step in with a legal “clarification” to allow the Bundesbank to keep buying Bunds.
Could this affect the ECB’s response to coronavirus?
The ECB vastly expanded its asset purchases in response to the coronavirus crisis in March by announcing a €750bn pandemic emergency purchase programme (PEPP) to buy various assets including sovereign bonds until at least the end of the year.
The German constitutional court is not ruling on the PEPP. But if it rules against the ECB’s earlier public sector purchases, investors may fear that the PEPP could ultimately be at risk too, risking a sell-off in the debt of weaker economies like Italy.
Is this the end of the battle?
When the ECJ approved the QE programme 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.
When it launched the PEPP, the ECB said it would waive the issuer limit and exercise flexibility on the capital key. It also promised to consider further revising the limits if needed. ECB president Christine Lagarde trumpeted its “no limits” policy.
Whatever the German constitutional court decides on Tuesday, the complainants are expected to trawl through its ruling for ammunition to bring a fresh case against the ECB’s latest “no limits” asset purchases.