The Bundesbank Hits Back
Germany's constitutional court in Karlsruhe is traditionally buried in complaints with every major new decision concerning the bailout regime and every major new policy initiative by the ECB. The court's modus operandi hitherto has been to largely adopt the position of the German government, but it will now and then add certain conditions. These conditions usually seek to ensure greater parliamentary oversight and/or attempt to ensure that government won't agree to anything on the European level that is clearly in conflict with the German constitution.
If one looks at these proceedings from outside, it seems obvious that the court wants to avoid handing down any rulings that might exacerbate the crisis. In fact, the government's arguments and briefs always stress the possibility that an uncontrollable crisis situation may result and that consequently Germany would suffer great economic damage if the court were to substantially interfere with its course.
On the other hand, the complainants are not exactly dummies. Not only do they usually wield very strong legal arguments, they are also favored by the fact that their predictions regarding the euro have all come true. And so the court is walking a fine line – neither does it want to completely upset the European applecart, nor does it want to be seen as simply rubber-stamping the government's agenda.
Following Mario Draghi's OMT announcement, more complaints were filed. In June the court will decide on the legality of the ESM and as part of the exercise has also undertaken to examine the legal standing of the ECB's OMT program – which so far exists only in announcement form.
What makes this particular decision a lot more interesting than usual is an amicus curiae brief filed by the Bundesbank. German financial newspaper 'Handelsblatt' reports that it has received a copy of the brief and its contents are quite explosive. We will summarize the Handelsblatt report below:
The Bundesbank is evidently strongly critical of the policies implemented to date in order to rescue the euro. It vehemently argues against any purchases of government bonds by the ECB.
It notes that “bonds of low credit quality are deliberately bought”, which increases the risks to the euro-system. Buying sovereign bonds might put the central bank's independence into doubt, which the BuBa considers the sine qua non for it to successfully pursue its price stability mandate.
“Once monetary policy is on this slippery slope, a reversal is difficult and only possible at great cost”, according to the BuBa. Wait, it gets even better.
'Monetary Transmission Mechanism' Broken? Tough Luck!
The BuBa notes that it doubts that purchases of sovereign bonds under 'conditionality' will actually include strict reform demands of the countries concerned and points to Greece as a bad example that has shown that conditionality does not preclude sizable purchases in extremely dubious cases, which teds to redistribute risk across the balance sheets of the euro-system. Moreover, the BuBa has grave doubts about the justifications for the putative bond purchases. For one thing, it regards different levels of interest rates within the euro zone not as a very good reason to engage in such purchases – higher financing costs for the private sector may simply reflect higher fiscal risks in the countries concerned. That, says the BuBa, isn't a development that should be influenced by means of monetary policy, as it is a direct consequence of the fiscal policies of the countries concerned. These policies in turn are their own responsibility.
In other words, the Bundesbank doesn't believe in or support the whole 'the monetary transmission mechanism is broken and must be fixed' theory forwarded by Draghi and the ECB's board.
'Preserving the Euro' Not Part of the ECB's Mandate
It gets even more interesting though, as the Bundesbanks also asserts that the 'preservation of the euro' is not part of the ECB's mandate.
The BuBa argues that it is simply not the ECB's job to prevent the exit of a member nation from the euro area. Verbatim: “In view of the fact that it consists of sovereign nations, the current composition of the currency union cannot be guaranteed – at least not by the central bank.”
Otherwise, the ECB could become the chief source of financing for euro area governments. A categorical guarantee for countries that they will remain members of the euro area – which is implied by the design and the justification for the secondary market purchases of sovereign bonds – means that as a last resort, financing independent of the financial markets will be entertained in order to guarantee that a country remains in the currency union.
Obviously this is a complete refutation of everything Draghi has said since his famous assertion at an investment conference in London which preceded the OMT announcement. As Draghi said on that occasion:
“Within our mandate, the ECB is ready to do whatever it takes to preserve the euro – believe me, it will be enough.”
In order to buttress its case further, the BuBa criticizes the provision of ELA (emergency liquidity assistance) financing to banks in Greece, noting that this was an especially problematic case that highlights the fact that fiscal policy was being taken over by monetary policy. The ECB had run a great risk by providing this financing, as the exit of Athens from the currency union “could under no circumstances be assessed to be a low probability event at every point in time.”
The above is – apart from our comments – mainly a summary of the article that was published at Handelsblatt.
However, the BuBa's brief also contains an extensive discussion of the TARGET-2 imbalances in the euro system, in which the BuBa – quite in contrast to its previous public “nothing to see here” pronouncements on the topic – admits that the payment system surreptitiously finances inner-European balance of payments deficits.
It specifically mentions that capital flight from the crisis countries is financed via TARGET-2, and points out that no settlement procedure exists. Long time readers know of course from our past discussions of the euro-system's payment mechanism that this is the case, it is mainly noteworthy because up to this point, the BuBa has tended to downplay the problems and risks of the TARGET imbalances in public. In its brief to the court it explains clearly what is actually happening. In addition it remarks that the recent narrowing of the imbalances may not mean much, because such phases of narrowing TARGET-2 imbalances have been seen several times before, namely whenever the crisis seemed to briefly go into hibernation. Similar to what we have always argued, the Bundesbank notes that the imbalances represent no problem as long as the currency union continues in its current form – however, in the event of a member state exiting, losses would likely have to be taken by the ECB (with the size of the losses depending on the ability and willingness of the national central bank concerned to pay up), which in the end would have to be borne by tax payers.
The Bundesbank's scathing assessment of the ECB's plans to save the euro via OMT certainly adds a new wrinkle to the upcoming deliberations of Germany's constitutional court. After all, it is not just any old expert witness condemning the ECB's policies here, but Germany's own central bank. Will the court dismiss this brief in the name of preventing a renewed flaring up of the crisis? That may well partly depend on actual market conditions in June. The court may be bolder than usual if the markets are still fairly calm when the time comes. Previously it was forced to deliver verdicts at a time when crisis conditions were acute, and an adverse decision on the bailouts would almost certainly have made them more so.
We know however that chief judge Voßkuhle is not necessarily a pushover. He has made very critical remarks about the government's crisis related policies before and pointed out that the time may come when the court insists that any further measures will require a plebiscite. It can therefore not be ruled out that the court comes to the conclusion that the Bundesbank's assessment of the OMT program is correct. Any decision that disrupts Draghi's cunning plan to print will put the euro area back on square one – i.e., the time before the OMT announcement. 'Interesting times' would be almost certain to make a rude comeback, especially as it is well known that a number of countries continue to miss their deficit targets amid sharply worsening economic conditions.
The Bundesbank's brief can be downloaded here (pdf), note however that we have unfortunately only a German version of it available at the moment.
Charts by: IFO Institute
Dear Readers! We are happy to report that we have reached our turn-of-the-year funding goal and want to extend a special thank you to all of you who have chipped in. We are very grateful for your support! As a general remark, according to usually well informed circles, exercising the donation button in between funding drives is definitely legal and highly appreciated as well.
Bitcoin address: 1DRkVzUmkGaz9xAP81us86zzxh5VMEhNke
6 Responses to “BuBa vs. ECB – Euro-System Infighting Resumes”
Most read in the last 20 days:
- How the Welfare State Dies
Hollande Threatens to Ban Protests Brexit has diverted attention from another little drama playing out in Europe. As of the time of writing, if you Google “Hollande threatens to ban protests” or variations thereof, you will find Russian, South African and even Iranian press reports on the topic. Otherwise, it's basically crickets (sole exception: Politico). Gee, we wonder why? They don't like him anymore: 120.000 protesters recently turned Paris into a war zone. All...
- Toward Freedom: Will The UK Write History?
Mutating Promises We are less than one week away from the EU referendum, the moment when the British people will be called upon to make a historic decision – will they vote to “Brexit” or to “Bremain”? Both camps have been going at each other with fierce campaigns to tilt the vote in their direction, but according to the latest polls, with the “Leave” camp’s latest surge still within the margin of error, the outcome is too close to call. The battle lines are...
- A Market Ready to Blow and the Flag of the Conquerors
Bold Prediction MICHAELS, Maryland – The flag in front of our hotel flies at half-mast. The little town of St. Michaels is a tourist and conference destination on the Chesapeake Bay. It is far from Orlando, and even farther from Daesh (a.k.a. ISIL) and the Mideast. St. Michaels, Maryland – the town that fooled the British (they say, today). Photo credit: Fletcher6 Out on the river, a sleek sailboat, with lacquered wood trim, glides by, making hardly a...
- Going... Going... Gone! The EU Begins to Splinter
Dark Social Mood Tsunami Washes Ashore Early this morning one might have been forgiven for thinking that Japan had probably just been hit by another tsunami. The Nikkei was down 1,300 points, the yen briefly soared above par. Gold had intermittently gained 100 smackers – if memory serves, the biggest nominal intra-day gain ever recorded (with the possible exception of one or two days in early 1980). Here is a picture of Haruhiko Kuroda in front of his Bloomberg monitor this...
- Rule Britannia
A Glorious Day What a glorious day for Britain and anyone among you who continues to believe in the ideas of liberty, freedom, and sovereign democratic rule. The British people have cast their vote and I have never ever felt so relieved about having been wrong. Against all expectations, the leave camp somehow managed to push the referendum across the center line, with 51.9% of voters counted electing to leave the European Union. Waving good-bye to...
- The Problem with Corporate Debt
Taking Off Like a Rocket There are actually two problems with corporate debt. One is that there is too much of it... the other is that a lot of it appears to be going sour. Harvey had a good time in recent years...well, not so much between mid 2014 and early 2016, but happy days are here again! Cartoon by Frank Modell As a brief report at Marketwatch last week (widely ignored as far as we are aware) informs us: “Businesses racked up debt in the...
- The Fed’s Doomsday Device
Bezzle BALTIMORE – Barron’s, in a lather, says the market is facing the “Two Horsemen of the Apocalypse.” Huh? Only two? There were four last time! Supposedly, the so-called Brexit – the vote in Britain this Thursday on whether to leave or remain in the European Union (EU) – and uncertainty over where the Fed will take U.S. interest rates are cutting down stocks faster than a Z-turn mower. But Brexit is a side show. As our contacts in London...
- Janet Yellen’s $200-Trillion Debt Problem
Blame “Brexit” BALTIMORE – The U.S. stock market broke its losing streak on Thursday [and even more so on Monday, ed.]. After five straight losing sessions, the Dow eked out a 92-point gain. The financial media didn’t know what to say about it. So, we ended up with the typical inanities, myths, and claptrap. “Investors” are pushing the DJIA back up again..apparently any excuse will do at the moment. The idea may backfire though, as exactly the same thing happened...
- Gold and Brexit
Going Up for the Wrong Reason Gold is soaring. It should—and a lot—but in my view not for the reason it is. Indeed gold is insurance for uncertain times, a time that Brexit seems to represent. But insurance is an administrative cost — one must minimize its use. August gold contract, daily – gold has been strong of late, but this seems to be driven by “Brexit” fears - click to enlarge. Moreover, insuring against Brexit might ironically be equivalent...
- In Gold We Trust, 2016
The 10th Anniversary Edition of the “In Gold We Trust” Report As every year at the end of June, our good friends Ronald Stoeferle and Mark Valek, the managers of the Incrementum funds, have released the In Gold We Trust report, one of the most comprehensive and most widely read gold reports in the world. The report can be downloaded further below. Gold, daily, over the past year - click to enlarge. The report celebrates its 10th anniversary this year. As...
- Brexit Paranoia Creeps Into the Markets
European Stocks Look Really Bad... Late last week stock markets around the world weakened and it seemed as though recent “Brexit” polls showing that the “leave” campaign has obtained a slight lead provided the trigger. The idea was supported by a notable surge in the British pound's volatility. Battening down the hatches... On the other hand, if one looks at European stocks, one could just as well argue that their bearish trend is simply continuing – and...
- Claudio Grass Talks to Godfrey Bloom
Introductory Remarks – About Godfrey Bloom [ed note by PT: Readers may recall our previous presentation of “Godfrey Bloom the Anti-Politician”, which inter alia contains a selection of videos of speeches he gave in the European parliament. Both erudite and entertaining, Mr. Bloom constantly kept the etatistes of the EU on their toes.] Godfrey Bloom, back in his days as UKIP whip Photo credit: Reuters Before becoming a politician, Godfrey Bloom worked for 35 years...