Just as the European Commission was about to release its Spring Economic Forecast in which it says the European Union is entering a “historic recession” that will result, among other things, in exceptionally large budget deficits and exceptionally large increases in public debt, last Tuesday the German Federal Constitutional Court (Bundesverfassungsgericht) issued a ruling in regard to the European Central Bank’s Public Sector Asset Purchase Programme (PSPP) that sent shock waves through the EU. In addition to raising a fundamental constitutional question about the relationship between national law and EU law, and between the national courts of the member states and the European Court of Justice, the ruling caused many to wonder whether the ECB would, as its former President Mario Draghi had famously pledged eight years ago in an earlier crisis, be able to once again do “whatever it takes”—this time to ensure that Europe recovers from the economic effects of the COVID-19 pandemic. It places a large question mark over the future of the new Pandemic Emergency Purchase Programme (PEPP) announced by Draghi’s successor, Christine Lagarde, in March under which the ECB will purchase up to €750 billion of private and public securities this year. And it places an even larger question mark over the still-uncertain funding of the €1.5 trillion Recovery Fund now being planned by the Commission.
The ECB began the PSPP—aka quantitative easing, QE for short—in March 2015. In it, the central bank of each member of the euro area would purchase government bonds or other marketable debt issued by the central, regional, or local issuers within its own jurisdiction as well as securities issued by eligible international organizations and multilateral development banks. The purchases would be distributed in accordance with the key for subscription of the ECB’s capital, with the national central banks holding 90 percent of the book value of the purchases and the ECB 10 percent. It was initially assumed the PSPP would run through September 2016 but it was extended several times. As of late 2019, the purchases under it amounted to €2.1 trillion.
More than 1,700 German citizens, including many economists and lawyers, filed complaints before the Federal Constitutional Court that the program violated several provisions in the EU’s treaties—most notably, those prohibiting the monetary financing of EU deficits and defining the ECB’s mandate in regard to monetary policy—and that the federal government and parliament had failed to act with respect to the Bundesbank’s participation in the program. In 2017, the German court referred several questions to the ECJ for a preliminary ruling and in 2018 the ECJ ruled that the PSPP neither exceeded the ECB’s mandate nor violated the prohibition of monetary financing. Following that judgment, the German court conducted a hearing on the complaints last July.
Last Tuesday, the German court found in favor of the complainants, ruling that the German government and the Bundestag had violated their rights under Germany’s Basic Law (Grundgesetz) by failing to take steps to challenge the fact that the ECB, in its decisions on the adoption and implementation of the PSPP, neither assessed nor substantiated that the measures provided for in those decisions satisfied the principle of proportionality. While the court recognized that the ECJ took a different stance in its 2018 judgment, it said the ECJ’s review as to whether the ECB’s decisions satisfied the principle of proportionality “is not comprehensible; to this extent, the judgment was rendered ultra vires [i.e., exceeded the legal authority of the ECJ]. It said the ECJ’s judgment that the decision of the ECB Governing Council in regard to the PSPP was within the ambit of its competences “manifestly fails to give consideration to the importance and scope of the principle of proportionality [in Article 5 of the Treaty on European Union]—which applies to the division of competences between the European Union and the Member States—and is simply untenable from a methodological perspective given that it completely disregards the actual economic policy effects of the programme.” It said the ECJ’s “approach to disregard the actual effects of the PSPP in its assessment of the programme’s proportionality, and to refrain from conducting an overall assessment and appraisal in this regard, does not satisfy the requirements of a comprehensive review as to whether the European System of Central Banks (ESCB) and the ECB observe the limits of their monetary policy mandate.” The German court concluded it was not bound by the ECJ’s decision and “must conduct its own review to determine whether the Eurosystem’s decisions on the adoption and implementation of the PSPP remain within the competences conferred upon it under EU primary law. As these decisions lack sufficient proportionality considerations, they amount to an exceeding of the ECB’s competences. A programme for the purchase of government bonds, such as the PSPP, that has significant economic policy effects requires that the programme’s monetary policy objective and economic policy effects be identified, weighed and balanced against one another. By unconditionally pursuing the PSPP’s monetary policy objective – to achieve inflation rates below, but close to, 2% - while ignoring its economic policy effects, the ECB manifestly disregards the principle of proportionality…. Therefore, the decisions at issue…exceed the monetary policy mandate of the ECB.”
The court ruled that “the Federal government and the Bundestag are required to take steps seeking to ensure that the ECB conducts a proportionality assessment…with regard to the reinvestments under the PSPP that began on 1 January 2019 and the restart of the programme as of 1 November 2019.” It said they “also have a duty to continue monitoring the decisions of the Eurosystem on the purchases of government bonds under the PSPP and use the means at their disposal to ensure that the ESCB stays within its mandate.” And in view of the fact that German institutions may not participate in either the development, implementation, or execution of ultra vires acts, the court ruled that, following a transitional period of no more than three months, “the Bundesbank may thus no longer participate in the implementation and execution of the ECB decisions at issue, unless the ECB Governing Council adopts a new decision that demonstrates in a comprehensible and substantiated manner that the monetary policy objectives pursued by the PSPP are not disproportionate to the economic and fiscal policy effects resulting from the programme. On the same condition, the Bundesbank must ensure that the bonds already purchased and held in its portfolio are sold based on a – possibly long-term – strategy coordinated with the Eurosystem.”
The Governing Council of the ECB discussed the German court’s decision last Tuesday evening in a conference call and there was an immediate consensus that the ECB would not formally respond to the decision, since it was directed to the German government and the Bundestag. However, several members of the Council were quite blunt in comments to the press about the decision. On Friday, the ECJ’s directorate for communication released a statement in which, after noting that the departments of the ECJ never comment on a judgment of a national court, it recalled that the ECJ “has consistently held that a judgment in which the Court gives a preliminary ruling is binding on the national court for the purposes of the decision to be given in the main proceedings.” And it noted that, in order to ensure that EU law is applied uniformly, the ECJ “alone—which was created for that purpose by the Member States—has jurisdiction to rule that an act of an EU institution is contrary to EU law. Divergences between courts of the Member States as to the validity of such acts would indeed be liable to place in jeopardy the unity of the EU legal order and to detract from legal certainty. Like other authorities of the Member States, national courts are required to ensure that EU law takes full effect.” In short, to use the same term it applied to the ECJ’s earlier ruling, the German court’s judgment was ultra vires; it exceeded its legal authority.
The Bundesbank, on the other hand, will have to decide whether, and if so how, to respond to the court’s ruling that, after three months, it no longer participate in the implementation and execution of the ECB’s decisions in regard to the PSPP unless the ECB’s Governing Council has in the meantime adopted a new decision that demonstrates “in a comprehensible and substantiated manner that the monetary policy objectives pursued by the PSPP are not disproportionate to the economic and fiscal policy effects resulting from the programme.” Given the foundational importance enshrined in the Treaty on European Union of the concept of central bank independence in Economic and Monetary Union, it’s inconceivable that either the Bundesbank or the ECB’s Governing Council, on which Jens Weidemann, the Bundesbank president, of course sits, will take instruction from the German court, and any effort by the German court to prevent the Bundesbank from participating in the implementation and execution of the ECB’s decisions in regard to the PSPP or, for that matter, any other ECB program, would in all likelihood cause the Commission to file an infringement motion before the ECJ. Indeed, Commission President Ursula von der Leyen said as much this past weekend.
But before that happens, it’s possible the ECB and/or Bundesbank will quietly arrange for their staffs to put together a comprehensive and detailed analysis that identifies, weighs, and balances the monetary policy objective of the PSPP and its economic policy effects. It’s also possible the German government and the Bundestag will elaborate, perhaps through legislation, a procedure by which, while fully respecting the independence of the Bundesbank and the ECB, they can try to ensure that the ECB conducts a proportionality assessment with regard to the purchases under the PSPP. On perhaps they will simply remind Karlsruhe that the proportionality principle about which the court was so concerned is elaborated in the Treaty on European Union—and that, as the ECJ said on Friday, a judgment in which it gives a preliminary ruling “is binding on the national court for the purposes of the decision to be given in the main proceedings” and that it is the ECJ and only the ECJ that “has jurisdiction to rule that an act of an EU institution is contrary to EU law. Like other authorities of the Member States, national courts are required to ensure that EU law takes full effect.” That should be—and hopefully will be—the final word.
As the German court’s decision reverberated throughout the EU, the next day the Commission published its Spring 2020 Economic Forecast. In it, it said that, “despite the swift and comprehensive policy response at both the EU and national level, the EU economy will experience a recession of historic proportions this year.” In presenting the forecast, Commission Executive Vice-President Valdis Dombrovskis said the effect of the coronavirus shock on the European economy will be far more severe than the financial crisis of 2008-09 and that all 27 member states are expected to have a recession this year. Paolo Gentiloni, the Commissioner for the Economy, put it more tersely—and accurately: “Europe is experiencing an economic shock without precedent since the Great Depression.”
While the Autumn 2019 forecast predicted the EU economy would grow by 1.4 percent in 2020, the new forecast predicts it will contract by 7.4 percent and by 7.7 percent in the euro area. The German economy, previously predicted to grow by 1 percent, is now predicted to contract by 6.5 percent this year. The French economy, previously predicted to growth by 1.3 percent, is now predicted to contract by 8.2 percent. The Italian economy, previously predicted to grow by 0.4 percent, is now predicted to contract by 9.5 percent. And the Spanish economy, previously predicted to grow by 1.5 percent, is now predicted to contract by 9.4 percent. The sharpest contraction, by 9.7 percent, is expected in Greece. As a result, the rate of unemployment in the EU this year, previously predicted to be 6.2 percent, is now expected to be 9 per cent and the rate of unemployment in the euro area, previously predicted to be 7.4 percent, is now expected to be 9.6 percent. In Germany, it is expected to be only 4 percent. But in France it is expected to be 10.1 percent; in Italy, 11.8 percent; in Spain, 18.9 percent; and in Greece, 19.9 percent. Unemployment is expected to remain high next year even as the economy recovers—in double digits in France, Italy, Spain and Greece.
The predictable effects of the contraction will be substantial reductions in government revenues, large increases in expenditures, large budget deficits, and large increases in public debt. The combined deficits of all levels of government will be equivalent to 8.3 percent of GDP for all 27 member states and 8.5 percent for the 19 members of the euro area. In Germany, the deficit is expected to be 7 percent of GDP; in France, 9.9 percent; in Italy, 11.1 percent; in Spain, 10.1 percent; and in Greece, 6.4 percent. As a result, the ratio of all public debt to GDP for the EU 27 will increase to 95 percent, and for the 19 members of the euro area it will increase to 103 percent. In Germany, it will increase to 76 percent; in France, to 117 percent; in Italy, to 159 percent; in Spain, to 116 percent; and in Greece, to 196 percent. The days of deficits no greater than 3 percent of GDP and debt-to-GDP ratios no greater than 60 percent—the two most important “convergence criteria” set forth in the Treaty on European Union as necessary conditions for participation in the euro area—are long gone.
On April 23, the European Council, consisting of the heads of state or government of the 27 member states, approved a €540 billion package assistance for workers, firms and euro area member states recommended by the Eurogroup, the finance ministers of the euro area, and agreed the package should be operational by June 1. They also agreed to work toward establishing a recovery fund “of a sufficient magnitude, targeted towards the sectors and geographical parts of Europe most affected, and dedicated to dealing with this unprecedented crisis” and tasked the Commission to analyze the exact needs and to urgently come up with a proposal commensurate with the challenge. In a press conference after the meeting, von der Leyen said, “We are not talking about a billion. We are talking about a trillion.”
But that was almost three weeks ago. Given the scale of the economic contraction now underway in all 27 member states, the best estimate is that more will be needed—perhaps twice as much. Europe needs to put aside the diversion of the red-robed judges in Karlsruhe and get on with the more important—and urgent—work of recovery from the worst contraction since the Depression.
David R. Cameron is a professor of political science and director of the European Union Studies Program.