The German constitutional court’s ruling on European Central Bank asset purchases seems astounding and perplexing.
It is contrary to Germany’s post-second world war legacy. Thirty years ago, German Chancellor Helmut Kohl was a staunch pillar behind the euro’s creation. In designing the single currency, Germany successfully insisted that the ECB mirror the Bundesbank and its role as an independent central bank focused solely on price stability. Germany has a strong post-war heritage as a defender of democratic freedoms in Germany and Europe, including central and eastern Europe. The court ruling challenges and undermines this proud legacy.
The ruling appears jurisdictionally incomprehensible. In an American context (which I appreciate this isn’t), it’s as if Californians, unhappy with Federal Reserve policy, challenge the US constitution, the Federal Reserve Act and Federal Open Market Committee policy in state court. In turn, the state court thumbs its nose at the supreme court and sets conditions by which the Federal Reserve Bank of San Francisco should step away from the Federal Reserve System.
As many analysts observe, the German court’s monetary policy and economic reasoning is highly flawed, especially relating to the argument that the judgment of the European court of justice fails the test of ‘proportionality’.
Of course, monetary policy affects economic outcomes. But the ECB statute is clear. Its primary objective shall be to maintain price stability. The court seemingly is urging the ECB to set aside its mandated objective for others.
It cites several negative impacts – asset purchases lower yields, thus acting as fiscal policy; savers receive scant interest; zombie firms are perpetuated. Then, disingenuously, it asks why these negative effects weren’t balanced against positive effects, which go unmentioned.
But the court could have looked no further than its own home city of Karlsruhe for the answer to its balancing question. All it had to do was read an excellent speech by the German member of the ECB Executive Board, Isabel Schnabel, at Karlsruhe’s Juristische Studiengesellschaft only three months ago.
Schnabel debunks many of the constitutional court’s arguments. She relates how structural factors such as demographics drive interest rates; German savers have often received negative real interest rates; German borrowers benefit from low rates; asset purchases foster higher growth and counter deflationary forces, thus supporting lending to more profitable firms, not zombies.
Other balancing considerations are of little import to the Karlsruhe court. Prior to the Covid-19 crisis, German fiscal policy had been inordinately tight, restricting German domestic activity and absorbing demand from elsewhere in the euro area and the world. This factor, and a real German euro which the International Monetary Fund estimates is roughly undervalued by 10-15%, is reflected in an enormous and excessive current account surplus. These developments have helped skew the euro area’s macroeconomic mix by overburdening monetary policy and the ECB.
Former ECB President Mario Draghi famously declared, ‘Within our mandate, the ECB is ready to do whatever it takes to preserve the euro.’ His successor, Christine Lagarde, insists, ‘There are no limits to our commitment to the euro.’ To that, the German constitutional court says, ‘Nein!’
The Federal Reserve consists of the board and 12 regional banks. But there is only one desk, in New York, to conduct all open market operations. The ECB still coordinates the decentralised operations of its members. Bringing all monetary operations, including the Bundesbank’s, under the auspices of ECB headquarters would advance the union and deal with the German court.
Where will the parties go from here? In 1832, South Carolina declared US tariff increases nullified in the state, arguing that South Carolina could void what it deemed unconstitutional federal law. US President Andrew Jackson stated, ‘Our union, it must be preserved.’ Congress subsequently passed legislation, allowing military force to be used against South Carolina if needed, but also lowering tariffs. The crisis was defused.
Policy-makers are masters of diplomatic fudges. The ECB undoubtedly feels it is under the ECJ’s exclusive jurisdiction, its asset purchases aim appropriately to fulfil its mandate and that the German court’s analysis is wrongheaded. But the ECB will not want an overt confrontation with Germany, nor would a ruckus be good for global financial market stability. One could well envisage that for pragmatism’s sake, somehow, some entity or person will provide what passes for a ‘proportionality’ assessment and the German court will climb down.
Given where conditions now stand, that would be good news. The bad news – roughly three decades after the ‘nullification crisis’ was defused, the first shots of the civil war were fired in South Carolina.
Ultra vires. Ultima ratio. Beware of Germans using Latin.
Mark Sobel is US Chairman of OMFIF.
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