Gunnar Beck argues that the European Stability Mechanism represents a clear breach of both of the EU Treaties and the German Constitution.
The European Stability Mechanism (ESM) is the permanent rescue fund that may grant loans to struggling euro zone governments by issuing bonds. These bonds are guaranteed collectively by the euro zone members, with Germany assuming the largest potential liability. The ESM is currently subject to legal challenges in the German Constitutional Court and in the European Court of Justice. For political reasons, neither Court is likely to kill the bailout fund. However, a closer look at the small print of the ESM Treaty suggests that in legal terms both challenges are well-founded and the ESM Treaty clearly falls foul of both the German Constitution and the EU Treaties.
In a series of important judgments over the last three years, the German Constitutional Court has ruled that any further transfer of national powers to the EU will impinge Germany's national sovereignty. This includes any proposed financial assistance by Germany to the embattled euro zone economies because it will limit the Bundestag's budgetary autonomy, an essential part of national sovereignty. The Court has ruled that the Bundestag must remain free to decide the overall burden of taxation within Germany. Assistance to other euro zone economies will drive up German taxation. The EU does not have the legal authority to do so and impose financial obligations on member states such as Germany. This deprives the national parliament of the power to control public expenditure. The Court has further insisted that any further financial guarantees or assistance by Germany has to be approved by the Bundestag.
Chancellor Merkel and her ministers point out that the ESM’s capital is limited to a mere 700bn euros. Sometimes they mention a figure of 500bn. They further claim that Germany’s maximum exposure is fixed at 190bn euros and there are sufficient formal safeguards to ensure the Bundestag would retain control over all decisions involving the authorisation of further loans, guarantees and assistance. Clearly, either German politicians have not read the Treaty they have signed or they do not understand its small print. Their interpretation of the Treaty is simply wrong.
Misconceptions about the ESM Treaty
Article 8(5) of the ESM Treaty does not limit the fund capital to its nominal value, which amounts to 700bn euros, but to its issue value. The ESM’s board of governors may decide that the issue value exceed the nominal value (Article 8(2)). Thus, for instance, if the board decides to issue the fund’s shares at the value of twice their nominal value, the overall liability of the eurozone governments who are the shareholders would double to 1,4bn euros without any need for formal amendment of the Treaty.
Article 25(2)states that if one or more of the ESM members fails to meet the required payments to cover their part of the share capital of the fund, the other members shall be liable for the shortfall in proportion to their share of the fund capital.
Article 21authorises the ESM to borrow on the capital markets from banks, financial institutions or other persons or institutions in addition to and excess of its nominal capital at the issue value and without any limits. ESM members shall ultimately guarantee and be liable for the repayment of the sums in proportion to their share of fund’s capital. In addition each ESM member shall be liable for any other which might become insolvent or otherwise unable to meet its capital payments or liabilities arising from the ESM’s loans.
According to Annex I of the ESM Treaty Germany is liable for 27,15 % of any losses on the ESM’s share capital, for 27,15 % of any losses on the potentially unlimited loans taken out by the ESM, and, in addition, for any shortfall resulting from any failure to meet its capital payments and/or liabilities by any insolvent or distressed ESM member, again according to its contribution key of 27,15% and well beyond that if several members become insolvent. In fact and in law, the ESM does not contain any limit on the extent of any member’s liability. If the ESM’s board raises the issue value beyond the nominal value of the share capital, decides to issue further bonds and borrow on the capital markets, and only one or two members become insolvent or leave the euro zone, as seems increasingly realistic, Germany’s liability under the ESM may realistically rise to 700 or 800 bn euros. If the crisis gets any worse than that, Germany’s exposure and likely losses could easily exceed one trillion euros, in addition to her pre-existing exposure and TARGET2 claims of broadly the same level. The result could be an increase in Germany’s public debt of somewhere between 2 to 2.5 trillion euros, which is roughly the same as her actual indebtedness as of August 2012. Germany’s debt would doubt to around 165% of GDP.
Other Treaty provisions reinforce the impression that the German government is misleading the German public as well as the Bundestag. Politicians in Europe as well as Germany are divided as to whether the ESM should be given a banking licence. The discussion seems superfluous as Article 32(9) states that the ESM shall be exempted from any requirement to be authorised or licensed as a credit institution or regulated entity under the laws of each ESM Member.
Another example of the widespread misconceptions about the Treaty became obvious at the EU summit in late June, when commentators argued that the direct bail-out of insolvent Italian and Spanish banks would require an amendment of the ESM Treaty. The truth is that Article 19 of the ESM Treaty allows the ESM governors to extend the scope of the ESM’s operations and financial instruments The ESM may borrow on the capital markets and from banks in order to bail out insolvent eurozone banks, without need for formal treaty amendment and formal approval by national parliaments.
Fiscal Autonomy at Risk
Germany’s Constitutional Court has stated that the German government may not grant further aid without parliamentary approval. However, Article 4(4) allows the ESM’s governors to authorise immediate financial assistance if circumstances require so in the opinion of the Commission and the ECB. Their decision does not require unanimity. For example, if Italy requests emergency financial assistance because it cannot roll over its public debt at affordable rates, the German ESM governor will either give his approval or ask the Bundestag to authorise him pro forma to do so without any discussion or debate. Even if he gives his approval without parliamentary backing or consultation, he will be immune from prosecution or removal and the governors’ decision will be final and not subject to legal review. This is ensured by Article 32 which states that any decisions taken by the ESM are final and non-justiciable and Article 35 which grants the directors and governors full legal immunity beyond their time in office and in both international law and that of the EU member states. Article 34 moreover requires all ESM officials, governors and directors to observe absolute professional secrecy in relation to any matter relating to the ESM. The ESM introduces a fundamentally unaccountable and corruptible mechanism for transferring budgetary decisions from national governments to an unaccountable body, the ESM board of governors and directors, which, in collaboration with the ECB and the EU Commission, are given carte blanche to circumvent national parliaments by authorising unlimited emergency bail-out funds. ESM decision-makers cannot be held accountable for their actions, and their decisions will create a fait accompli. The eurozone will lose their fiscal autonomy, and the small print of the ESM Treaty reveals that national parliaments may not even retain a control function. Like the ECB President, ESM officials cannot be held accountable for the most flagrant violations of EU and national constitutional law.
The ESM Treaty would suspend the budgetary autonomy of the Bundestag, which the German Constitutional Court has held to be the core of the German Constitution. It also violates practically every relevant provision the EU Treaties. Article 123 TFEU forbids the use of the printing press to bankroll governments and public authorities and makes it unlawful for them to borrow from the ECB or the national central banks. The prohibition in particular refers to the sale of government bonds to the ECB or other central banks. The ESM would create a parallel ‘bad bank’ which would be allowed to do everything the ECB is ostensibly prevented from doing under the Treaties: to buy government bonds directly, to lend to national government without any prescribed limit, to rescue insolvent banks, and to print money by issuing bonds that are not covered by the ESM’s underlying capital base. ECB President Draghi has already indicated that he would take the purchase of euro zone bonds by the ESM as a green light that the ECB would be no longer bound by the restrictions of Article 123.
The ESM Treaty effectively provides for the mutualisation of national debt within the EU – eurobonds by another name. There is no upper ceiling on the amount of debt ‘pooled’ amongst eurozone governments as they can borrow on the capital markets and from banks or other investors. There could be no more flagrant violation of the ‘no bail’ clause of Article 125 TFEU.
The Inevitable Prospect of Inflation
And whilst economists disagree about the scale and timing of the inflationary effect of large scale‘government financing’ by the concerted printing press run by the ESM and ECB, no sane expert denies the very real inflationary risk of such operations, nor that inflation will eventually rise significantly due to the combined effect of an increase in the money supply and a depreciation of the euro with resulting increases in import, especially, oil and gas prices. Article 127 TFEU states that price stability and the maintenance of the purchasing power of the euro are the primary objectives of the ECB. The ESM under its Goldman Sachs-trained Italian President instead provides for the ‘lirafication’ of the euro. Nothing could be more contrary to the original agreement that the ECB be modelled on the Bundesbank and nothing could more incompatible with the commitment to price stability enshrined in the EU Treaties.
The ESM manifestly breaches both German constitutional law as well as the EU Treaties. Yet, few observers expect either the FCC or the ECJ to say so except, perhaps, to ask for a few cosmetic changes. If implemented, the ESM will reverse the greatest nineteenth century political achievement in almost European countries: the transfer of the powers of determining taxation and expenditure from unaccountable monarchical government to more or less elected and accountable parliaments. Moreover, that transformation will have taken place through systematic disregard for multiple legal and constitutional safeguards in countries that lecture the whole world on the need for rights, judicial review and the rule of law. How apt then that two of the most eminent courts in Europe will have the final say of approval in the abrogation of the rule of law. More than something is rotten in the countries south of Denmark.
The views expressed in this article are the author's own and do not necessarily reflect Fair Observer’s editorial policy.