Has the Euro Been Saved?

Philip Arestis and Malcolm Sawyer

A number of changes have been taken or proposed as a result of the financial crisis of August 2007 and the “Great Recession” that are worth discussing in terms of the euro crisis. Most important, though, are the changes of the period between late 2011 and 2012: strict budget rules, banking oversight stripped from national governments might make the European Central Bank (ECB) become “lender of last resort.” We concentrate on the most recent ones at some length before we reach conclusions as to whether the euro has been saved from the euro crisis.

The European Union (EU) summit meeting, 28/29 June 2012, took a number of decisions: banking licence for the European Stability Mechanism (ESM) that would give access to ECB funding and thus greatly increase its firepower; banking supervision by the ECB; a “growth pact,” which would involve issuing project bonds to finance infrastructure. Two long-term solutions are proposed: one is a move towards a banking union and a single euro-area bank deposit guarantee scheme; another is the introduction of eurobonds and eurobills. Germany has resisted the latter, arguing that it would only contemplate such action only under a full-blown fiscal union; not much has been implemented in any case.

Further proposed changes followed. The ECB announced in July 2012 that it would do “whatever it takes” to save the euro, as the President of the ECB promised then. This is considered a turning point in the euro-area sovereign debt crisis. This was confirmed by the ECB President after the ECB’s first meeting in 2014 (9 January) of its rate-setting governing council. The President reiterated that monetary policy would remain ultra loose and accommodative “for as long as necessary,” with the key ECB interest rates to be kept as at present or even lower for an extended period of time. Deflation is a particular worry for the euro area in view of the high debt, both private and public, in its most vulnerable economies. The ECB is expected to take further action in response to this possibility. However, the Governing Council of the ECB has taken no action on this score so far since deflation, in this view, is not a threat to the euro area economy.

The ECB unveiled in September 2012 the “Outright Monetary Transactions” (OMT) bond-buying tool. The OMT has not been tested yet. There is also the problem of unknown finer details of the programme. In addition, there is the condition that under OMT the ECB could buy unlimited amounts of short-maturity bonds only in the secondary market of any country that signed up to fiscal conditions; it is also conditional on a government signing up for an austerity-and-reform programme.

The European Stability Mechanism (ESM), the euro area’s permanent bailout fund, was inaugurated in October 2012 as a permanent firewall for the euro area. It is designed to safeguard and provide instant access to financial-assistance programs for member states of the euro area in financial difficulty, with a maximum lending capacity of €500 billion. Since October 2012, further details have emerged: the programme that might help those countries that were regaining market access shifted into a strict condition that they do have complete market access, so that a relevant candidate could be allowed access; instead of publishing OMT’s legal documentation “soon” after October 2012, the ECB has shifted stance to “only publish when a country applies.”

The Bundesbank, Germany’s Central Bank, opposes OMT in that it is close to monetary financing, namely direct borrowing by governments from their central banks, which is banned by the Maastricht treaty; although the treaty does permit the ECB to buy public debt in the secondary markets. It is the case, actually, that, the Bundesbank has never warmed to the OMT. In any case, the matter was referred to the German Constitutional Court, which in its turn referred the ECB OMT scheme to the European Court of Justice (ECJ), the highest legal court in the EU, on 7 February 2014. The view of the German Constitutional Court is still that the OMT programme is not covered by the mandate of the ECB; it is, therefore, “incompatible with primary law” (as reported in the Financial Times, 8 February 2014), and it violates the German constitution. It would deprive the German government of its fiscal sovereignty for it would force it to accept any generated losses. The court considers OMT “monetary financing” or “debt monetisation,” whereby the Central Bank prints money to finance sovereign debt; this in this view is outlawed under European treaties. It thereby “creates an obligation of German authorities to refrain from implementing it,” according to the German Constitutional Court. It clearly is the case that two important institutions in Germany have registered their strong objections to the OMT type of monetary policy. This objection is likely to apply in the case of the ECB deciding to pursue “Quantitative Easing” type policies.

This incident raises questions over the OMT’s legality, thereby providing ammunition to the ECB’s critics and prolonging legal uncertainty over the OMT.  The German Constitutional Court seems to have concluded that only the EJC could decide on the matter. Be that as it may, whatever the outcome of the ECJ’s decision, problems are inevitable. For if the ECJ’s decision is to uphold the ECB’s defence of bond buying, which would imply squarely that it is consistent with the ECB’s monetary policy mandate, the EMU will then be in the awkward position: the highest court in the EU is not in agreement with the highest constitutional court’s decision of one of the most powerful EMU countries. If the ECJ does not uphold the ECB’s defence of bond buying, the ECB then will be in a very awkward position. It is clear, though, that both the Bundesbank and the Germany’s constitutional court have registered their strong objection to this kind of monetary policy in particular that underpins the euro. Whether another crisis is thereby in the offing, it is an interesting question. The euro may have not been saved yet!

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