Last Tuesday 16 June the European Court of Justice issued a historic decision ruling that Mario Draghi was legally correct when on 26 July 2012 speaking at the Global Investment Conference in London said the famous phrase, “…the ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough”. Some weeks later, on 6 September 2012, Draghi fulfilling this promise announced the Outright Monetary Transactions (OMT), the program which authorized the European System of Central Banks (ESCB) to purchase (on the secondary markets) government bonds issued by member states of the euro area. This happened in order to save the European sovereign debt market from a breakdown.
Several groups of individuals in Germany questioned the constitutional base of the OMT program and took their action to the Bundesverfassungsgericht (Federal Constitutional Court, Germany). The parties which brought these actions maintained that the OMT (a) is not covered by the mandate of the European Central Bank and contravenes the prohibition of monetary financing of the euro area Member States and (b) that those decisions breach the principle of democracy entrenched in the German Basic Law (Grundgesetz) and thus impair German constitutional identity.
ECB was right in 2012
In its turn, the Bundesverfassungsgericht decided that it had to ask the European Court of Justice whether the EU Treaties permit the ESCB to adopt a program such as the OMT. In particular, it had doubts as to whether the program is within the powers of the ESCB, as defined by the EU Treaties, and is also uncertain about whether the program is compatible with the prohibition of monetary financing of the Member States.
With last Tuesday’s judgment, the European Court replied that the EU Treaties permit the ESCB to adopt a program such as the OMT. Understandably, this decision will be soon handed on to the German constitutional court biding it to deliver a similar judgment. In this way the German objections against ECB’s extraordinary monetary tools will be definitely settled.
The new quantitative easing
Now, let’s discuss the new quantitative easing program of the ECB of a total value of €1.14 trillion. Despite the grievances from the German Federal ministry of Finance and the country’s central bank, the Bundesbank, there was no similar legal action in Germany against the new ECB quantitative easing plan, the so-called “expanded asset purchase program”.
This new project was announced last January and includes bonds issued by euro area central governments, agencies and European institutions. It commenced on Monday 9 March and provides for a total expenditure of €1.14 trillion, effectuated in monthly installments of at least €60 billion each and is expected to span until September 2016. Its prime target is to fight deflation and stagnation in Eurozone.
All that started with the crisis
However, all those unconventional monetary tools began when the financial crisis landed on European soil, after the outburst of the US financial meltdown in the aftermath of the Lehman Brothers bankruptcy of September 2008. The first EU financial sector to be touched by this modern-day economic Armageddon was the entire European banking system, which was at the time seriously undercapitalized and overexposed to American toxic assets.
A number of EU banks started to go bust with the first one being the UK’s Northern Rock. The disease spread to mainland Europe and hit a large number of big banks. Germany, France, Belgium, Holland, Austria and many more Eurozone countries were obliged to spend trillions of euros to support their ailing banking system. The EU Commission estimates the total amount of public money spent to support the Eurozone banks at €4.5 trillion.
Then Greece came
Unfortunately, in the middle of Europe’s efforts to salvage its failing banking system and the world from complete chaos, towards the end of 2009 it became apparent that Greece, if left alone, was heading for bankruptcy. Her banks had no problem whatsoever. It was the government that had come at the edge of insolvency. At that point the ECB intervened decisively. But was it done in a just and fair manner? The answer is clearly ‘no’. Let’s recall the facts.
On 10 May 2010 the support mechanism for Greece was enacted. It contained the European Union, the International Monetary Fund and the ECB. On the same day though the ECB almost silently introduced its own ‘private’ salvation program (Securities Market Program) to support the Eurozone banks, mainly the “too big to fail” French and German lenders.
Under this ‘monetary’ tool the ECB was buying the Greek sovereign bonds from the German and French banks which were exposed to toxic Greek assets. Now talking about prices, in reality at that time there was no buyer for Greek securities at the exception of ECB. At the time those Greek bonds were sold at less than 60% of their nominal price. From the moment the ECB started buying those titles, their prices climbed immediately to close to 90%.
Saving the Franco-German lenders
At such levels of prices the French and the German banks unloaded a round sum of €80 billion to the ECB. By doing this, they also avoided the famous ‘haircut’ of 53.5% that the Greek sovereign bonds held by the private sector suffered, in February 2012. On that occasion, the Greek banks and the Greek pension system were destroyed because they collectively held a round sum of €60 billion of those securities. Alas for Greece, the ECB held bonds were exempted from this haircut because the central bank did not belong to the private sector.
The poor paid to salvage the rich
Summing up, the ECB saved the French and the German banks handing then a round sum of €80 billion in exchange of the rather worthless Greek bonds they held. No German ‘professor’ contested the 2010 flagrant monetary financing of the big German and French banks. The German academic and financial orthodoxy complained though when the ECB, by reaching the limits of its mandate in the summer-fall of 2012, introduced its OMT program to support Italy and Spain.
As for the Greek taxpayers and in a wider sense all Greeks, they are now obliged to pay the maturing bonds the ECB holds from 2010 at their nominal value. However, the ECB says it returns to the Greek government the super profit it makes out of those securities, but it’s not at all clear how it estimates this part to be handed back.
In short, the German orthodox ‘professors’ who questioned the legality of ECB’s 2012 OMT program and the ECB itself by its ‘operations’ with Greek bonds back in 2010 have both acted hypocritically to the detriment of Greeks, while salvaging the German and French banks. It’s hypocrisy squared. Ads for the EU Court of Justice a negative decision about the OMTs would have sent the entire Eurozone monetary arrangement to chaos, because before and after 2012 the ECB had applied similar tools of very important significance.
Coming to the latest developments around Greece, Germany has been rejecting a substantial support for Athens, forgetting that the Greek taxpayers saved the German lenders back in 2010. Quite unfairly, Berlin and Paris refuse now to return the 2010 courtesy Greece did to their banks.