Don't be scared of the German constitutional court
Business Opinion: if the German constitutional court says Mario Draghi’s feet are made of clay, all hell may break loose
“The German Constitutional Court has raised doubts about the legality of Outright Monetary Transactions. What it has not done is say the ECB cannot do whatever it takes to save the euro.” Photograph: Reuters/Alex Domanski
Just how concerned should we really be about the recent ruminations of the German constitutional court? Have they upset the barely stabilised apple cart that is the grand European project or are they the latest institution to kick the well-beaten can down the road?
The first thing is to try and get your head around what they have done. In case your busy schedule does not allow you keep abreast of German constitutional issues, here is a recap: just over 18 months ago, new head of the European Central Bank Mario Draghi committed the bank to buying up the bonds of euro zone countries that were being shut out of the market. He announced a mechanism for doing this called Outright Monetary Transactions (OMT). He followed it up with a pledge to do whatever it takes to save the euro. It worked and, to the relief of everyone, including most Germans, the existential crisis over the euro dissipated. He had in effect pledged the totality of the bank’s balance sheet and its printing press in support of the euro. The markets got what they wanted – certainty – and backed off.
OMT as transgression
However, not everyone in Germany was pleased. Some Germans felt that OMT breached the ban on the ECB financing member state governments. They took a case to the German constitutional court which decided that while it felt it was in breach, it was really up to the European Court of Justice in Luxembourg to decide.
The can does seem to have been kicked down the road, but the fear is that the rug has been pulled from under Draghi’s feet – partially at least – because even if the ECJ backs him, the ECB will be at odds with the constitution of the largest member state.
The market, however, seems to have taken it all in its stride with euro zone bond yields unaffected. But the point to remember is that despite claptrap about efficient markets they can take a while to react.
Greece, for example, was a financial basket case for months before it triggered the euro crisis. The budgetary stances being adopted by emerging markets were wholly wrong long before the Federal Reserve started its inevitable tapering and pushed up interest rates.
So just because the market has not noticed that the German constitutional court says Draghi’s feet might be made of clay does not mean that it won’t – and when it does all hell may break loose.
But, on balance, one has reason to hope it will not come to this. An interesting perspective was offered last week by Paul Donovan, economist with UBS, in town to address a Kinsale Capital lunch.
To paraphrase him somewhat, the important thing is not to lose sight of the fact the German Constitutional Court has raised doubts about the legality of OMT. What it has not done is say the ECB cannot do whatever it takes to save the euro.
One particular weapon in the ECB’s arsenal may have been blunted but there are others. As long as the market knows this, another speculative assault on the euro is unlikely.
The real damage of the German constitutional court ruling is that it makes the job of achieving banking and fiscal union all the harder. Apart from creating a legal obstacle and potentially creating a European constitutional crisis, it just pisses other Europeans off.
Faced with the choice between economic stability across the euro zone and the nihilistic pursuit of hypothetical constitutional violations, the Germans seem incapable of resisting the later.
Worse threats lurk
But, as bogeymen go, this is very much a second-division one and should not be causing us too much anxiety in 2014. In fact, Donovan identified a couple of much scarier trends, including a nascent division in the US Federal Reserve between incoming chairman Janet Yellen, with her background in labour market economics, and her more monetarist deputy chairman Stanley Fischer. We can expect friction.
Donovan also predicts the gains expected for right-wing parties in the European elections will spook international investors. Explaining 25 per cent of the seats in the European Parliament are held by dangerous bigots to a fund manager in Des Moines, Iowa, will not be straight forward.
Throw in the ever-growing tensions in China and you can start feeling quite cheerful about the machinations of the German constitutional court.