The Pandemic Emergency Purchase Program (PEPP) is a non-standard monetary policy measure in line with the other non-standard measures such as the APP, adopted in 2015. The APP includes the Public Sector Purchase Program (PSPP) for the purchase of bonds issued by euro area Member States, recognized agencies, international organizations and supranational institutions located in the eurozone. Compliance of the PSPP with articles 119, 123, 127 TFUE and articles 17 to 24 of the ESCB Protocol has been challenged before the CJEU. In its judgment of 11 December 2018, known as Weiss, the Court found that the PSPP Program did not was in breach of article 123 TFUE, that is, the prohibition of monetary financing neither it exceeded the ECB’s mandate.
The PEPP is a separate and additional temporary tool, which is a consequence of the Covid-19 pandemic and which blends some of the features of previous Programs.
In its controversial judgment of 5 May 2020, the Karlsruhe Court declared that both the European Central Bank and the Court of Justice of the European Union had acted ultra vires; the first, with the Program for the purchase of public securities on the secondary market, launched in 2015, and the second, by declaring, in its Weiss judgment of 2018, that this Program is compatible with Union law.
The recent judgment of the German Federal Constitutional Court has been highly controversial because, although it refers only to PSPP it has posed a major legal challenge and may affect the implementation of subsequent ECB monetary Programs. In short, the judgment states that, in principle, considering the size and duration of the Program, it may be disproportionate, interfering with economic policy measures that are the exclusive competence of Member States. It concludes that the ECB has exceeded the limits set out in the Treaty on European Union (TEU) to the cession of sovereignty agreed by the EEMM.
Is the PEPP in breach of article 123 TFUE?
Article 123.1 TFUE reads as follows: Overdraft facilities or any other type of credit facility with the European Central Bank or with the central banks of the Member States in favour of Union institutions, bodies, offices or agencies, central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of Member States shall be prohibited, as shall the purchase directly from them by the European Central Bank or national central banks of debt instruments.
In light of the requirements provided in the Gauweiler and Weiss judgements for the PSPP, this section aims to assess whether the PEPP circumvents the monetary financing prohibition.
First, the Program must not have an equivalent effect to that of a direct purchase of bonds on primary markets. According to article 21 of the ESCB, “The ECB is not allowed to provide overdrafts or any other type of credit facilities to public entities, nor can the ECB directly purchase debt instruments from these public entities”. Therefore, the prohibition of buying debt instruments directly from national governments is based on the fact that such an operation provides liquidity to these governments and thus implies monetary financing of the government budget deficit. However, the ECB is allowed to buy government bonds in the secondary market in the context of its open market operations. In doing so, the ECB does not provide credit to governments. What it does is to provide liquidity to the holders (financial institutions) of these government bonds.
The European Court of Justice considered that the PSPP is not to be equated to a measure of financial assistance to a Member State.
Second, the ECB has to put in place sufficient safeguards to ensure that the issuing country keeps pursuing a sound budgetary policy. Following the criteria of the Court of Justice, there will be no equivalent effect in the absence of foreseeability, that is, economic agents do not have to have the certainty that their bonds will be repurchased by the Eurosystem on secondary markets.
When assessing the safeguards provided by the PPEP, the following factors/remarks must be taken into account.
Firstly, the PEPP does not have any purchase limits. According to the recital nº 6 of the PEPP Decision “The Governing Council also decided that to the extent some self-imposed limits might hamper action that the Eurosystem is required to take to fulfill its mandate, the Governing Council will consider revising them to the extent necessary to make its action proportionate to the risks faced”. This unlimited character of the Program may be questioned in the future by the Bundesverfassungsgericht (BVerfG). Instead, the PSSP is subject both to issue purchase limits as well as issuer purchase limits (art. 5 of the PSPP Decision).
Secondly, the Court refers to the capital key criterion to assess the safeguards provided by the Program. According to this requirement, purchases of debt securities must be proportionally allocated among the Member States based on their share in the capital of the ECB. However, the PEPP specifically provides for a flexible application of this requirement, allowing “fluctuations in the distribution of purchase flows over time, across asset classes and among jurisdictions”. In addition, the President of the ECB, Christine Lagrade, has recently affirmed that “The capital keys provide a general guide to our purchases under PEPP, but it does not have to be applied at each and every point in time, so there can be deviation at any point in time […] in order to reach the goals that we assign to the tool we are using.” This flexible approach may be challenged by the BVerfG as this Court claims for a restrictive interpretation and application of the capital key criterion. For the BVerfG, the capital key criterion “constitutes an objective criterion that is independent of the economic and budgetary situation of the respective Member State of the euro area”. Therefore, any departure from it will be considered as a signal to meet the specific financing needs of countries in distress (Viterbo, 2020).
In the third place, concerning the eligibility requirements, the PEEP has relaxed the requirements both for issuers as well as for marketable assets used as collateral when compared with the PSPP. Concretely, the minimum rating is set at Credit Quality Step 3. In addition, the PEEP grants a waiver for Greek debt securities.
The BverfG holds a stricter view and has warned that any further lowering of the eligibility requirements concerning the credit quality rating will not comply with the mandatory requirements.
According to the Court of Justice, these safeguards do not constitute necessary and immovable requirements, instead, they can be recombined or relaxed. In fact, the Court has stated that the requirements may change depending on “both on the particular features of the Program under consideration and on the economic context in which that Program is adopted and implemented”. However, the BVerfG considered that the PSPP was not in breach of article 123 TFUE as long as the safeguards were strictly observed.
Concerning the PEPP, even though it is a temporary and emergency tool, its lower safeguards (compared to PSPP) and its flexible approach may be questioned by the German Court.
Has the ECB exceeded its mandate with the PEPP?
According to the Treaties, the ESCB has a mandate to conduct monetary policy (Art. 127 TFEU) and the Member States are charged to conduct economic policy (Art. 119 TFEU). Following Articles 127.1 TFEU and 282.2 TFEU, the primary objective of the Union’s monetary policy is to maintain price stability and, additionally, those same provisions provide that, without prejudice to that objective, the ESCB shall support the general economic policies of the Union to contribute to the achievement of the objectives of the Union as defined in Article 3 TEU.
It is important to assess whether the PEPP is within the ECB’s mandate or if instead, these “unconventional measures” are to be considered as an ultra vires decision of the ECB.
The CJEU states that monetary policy is defined only through its objectives and instruments. And while the main objective is price stability, the second is to support economic policy, thereby blurring the distinction between monetary and economic policy.
In the Gauweiller case, the CJEU points out that the conduct of monetary policy implies a continuous influence on the interest rates and refinancing conditions of banks, which necessarily has consequences for the financing conditions of the public deficit of the Member States.
Therefore, the CJEU adopts an expansive definition of monetary policy (Mooij, 2019), accepting any measure affecting monetary policy, regardless of whether there are other indirect effects on economic policy, excluding only those that contravene clear Treaty prohibitions. As a consequence of the independence of the ECB, the CJEU considers that all the ECB does is monetary policy, unless there is a manifest error. In the Weiss judgment on the PSPP, the Court, concerning the principle of proportionality, considered that the risk of deflation was a real threat and that the decisions taken by the ECB to deal with it were appropriate and, compared with other alternative measures, did not go beyond what was necessary to mitigate it. The temporary nature of the Program and the measures taken to limit the volume of purchases make it unlikely that the ECB has made a manifest error. And the fact that each central bank made separate purchases reduces the risk of loss transfer, providing a sufficient safeguard against moral hazard.
However, the BverfG considers that all monetary measures which, while serving to maintain price control, have significant economic effects should be subject to a double proportionality check. Unlike the CJEU, the BverfG refers to the principle of proportionality strictu sensu and argues that the transfer of powers would only be justified if the proportionality of the monetary and economic objectives of the PEPP were shown.
On the one hand, it must be determined whether they are compatible with the main purpose of the mandate, that is, the control of inflation around 2 percent.
On the other hand, it must be determined whether they do not go beyond what is necessary to achieve this objective.
The German Federal Constitutional Court concludes, on its judgement of 5 May 2020, that the PSPP does not fulfill the criterion of proportionality strictu sensu. It considers that the European Central Bank neither the Court of Justice did not take into account the economic effects resulting from its implementation, given that this Program, for its volume of billions of euros and its duration over time, is liable to have economic policy effects that include «its economic and social impact on virtually all citizens who are indirectly affected». Among them, the BVerfG expressly cites «losses for private savings» (since savers intended to maintain or increase their savings with positive interest rates) and for «economically unviable enterprises» (to which higher interest rates may impede their survival)
In light of this conclusion and taking into account that the PEEP is much more flexible than the PSPP, it is likely foreseeable that the German Court will consider the Program as violating EU law.
Conclusion
Monetary policy, as it was when EMU was designed, does not apply to the challenges facing central banks today. Neither inflation is a pressing problem, nor are classical tools (interest rate hikes) useful. It is clear that the successive Programs developed by the ECB do not pursue an objective of price stability, but rather that of economic recovery and, in any case, the stabilization of the markets (first financial and then public debt). Both the CJEU (through its vagueness on indirect economic effects) and the BVerfG (through the principle of proportionality) have accepted this de facto extension of the ECB’s mandate.
However, the flexibility of the PEPP which is benefiting some Member States more than others, and the lower safeguards to guarantee the non-transference of risks within the EU, compared to the PSPP, gives us a clue about what will be the German’s Court opinion. Thus, it is not only possible to question whether it goes beyond the mandate of the ECB (in theory justifiable with an adequate argument of proportionality) and whether there is monetary financing (in theory justifiable by the purchase in secondary markets), but there is also the affectation to the element of «constitutional identity», the question of fiscal solidarity.
In conclusion, the conflict between the TJUE and the BVerfG is not legal but of a political nature. The solution implies answering the following question: Is the EU willing to go towards a political integration?
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By Blanca Prat: The European Institute for International Law and International Relations.
