Will Karlsruhe rock markets again?

While the German Constitutional Court kept almost the entire Eurozone and financial markets on tenterhooks last year, next week’s hearings on the ECB’s bond purchases should rather be a media showdown than a market shaker.

Last year, the German Constitutional Court kept almost the entire Eurozone and financial markets on tenterhooks with its verdict on the Eurozone’s rescue funds (the ESM). Next week, many market participants will again have a very close look at events in a small German city called Karlsruhe. On 11 and 12 June, following up on last year’s verdict, the German Constitutional Court will conduct a public hearing on several pending legal challenges regarding the ECB’s bond purchasing programmes (SMP and OMT) and its Emergency Liquidity Assistance (ELA). Just to be clear, it will only be a hearing. A date for the final judgments has not yet been announced. It will probably come in September. The legal issues at stake are highly complex. Obviously, we are no legal experts. Nevertheless, here is our take on the issues at stake and possible outcomes. Technically speaking, the German Court cannot render a judgment on the ECB. The ECB falls under the jurisdiction of the European Court of Justice. This means that the German Court cannot interdict the OMT. As a consequence, the worst-case scenario looks highly unlikely. A more plausible scenario is in our view that the Constitutional Court decides on the following: 1) whether any ECB action has endangered the budgetary prerogative of the German Bundestag; and 2) whether the ECB’s conducted (and potentially planned) bond purchases breach the German Constitution. This proceeding would be in line with earlier verdicts, including last year’s verdict on the ESM.

Just focusing on the above-mentioned two issues, a possible train of thought is that all ECB measures which implied more (temporary) risk-taking by the ECB could eventually and indirectly through the Bundesbank channel have an impact on the German budget While this could theoretically build the case for more parliamentary influence (as in the Court’s ESM ruling), the Bundesbank’s constitutional independence should make any changes (almost) impossible to implement. Therefore, a scenario in which the Constitutional Court tries to exempt the Bundesbank from participating in monetary policy operations which could lead to possible future losses looks unlikely. If the Court continues to have doubts about the legality of the ECB’s bond purchases, it could refer the case to the European Court of Justice. Something it has never done before.

All of this means that next week’s hearing of the German Constitutional Court should rather be a big media showdown, with both the Bundesbank and the ECB testifying in court, than a market shaker. Even looking beyond the hearing, the Court’s eventual final judgment should in our view hardly be anything to worry about. The Court is unlikely to intervene in the ECB’s day-to-day crisis management. Contrary to the ESM ruling, it does not seem to have a lot of legal leverage to strengthen the German influence in the ECB’s decision-making process. Maybe the Court’s final judgment could eventually even have a slightly bitter taste for some Germans if it directly or indirectly confirms an inconvenient truth: the fact that the German Bundesbank has become an “acting agent” – one among 16 other national central banks.