Draghi Buoyed as EU Court Aide Supports 2012 Bond-Buy Plan

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ECB President Mario Draghi
ECB President Mario Draghi signaled in an interview with Die Zeit that the ECB is ready to buy government bonds and is likely to announce fresh stimulus at its Jan. 22 meeting, warning that the euro area faces the threat of a deflationary spiral if the central bank doesn’t act. Photographer: Martin Leissl/Bloomberg

Mario Draghi won a legal endorsement for the bond-buying plan he designed to save the euro, potentially easing resistance to a similar program that could be announced as soon as this month.

The Outright Monetary Transactions program that the European Central Bank president pushed through in 2012 won the conditional backing of Advocate General Pedro Cruz Villalon of the EU Court of Justice in Luxembourg, who said the measures are “in principle” in line with the bloc’s law.

“The ECB must have a broad discretion when framing and implementing the EU’s monetary policy, and the courts must exercise a considerable degree of caution when reviewing the ECB’s activity,” Cruz Villalon said in a non-binding opinion today. Such advice is followed by the court in a majority of cases.

The opinion could ease pressure on ECB President Draghi days before he meets with his Governing Council to consider a separate so-called quantitative-easing package to quell the threat of deflation in the euro area. Opponents of QE had raised legal concerns as one objection.

“This was definitely very good news for the ECB,” said Thomas Harjes, senior European economist at Barclays Plc in Frankfurt. “We consider today’s opinion to be a green light for the ECB’s OMT and potential QE including government bonds and potential risk sharing in the event of a sovereign default or debt restructuring.”

‘Whatever it Takes’

The ECB in September 2012 announced details of the OMT plan as bets multiplied that the euro area would break apart and after Draghi’s promise to do “whatever it takes” to save the currency. The calming of financial markets that the still-untapped OMT program produced helped the euro area emerge from its longest-ever recession.

Germany’s own top court had expressed doubts about the legality of the OMT program, when it referred the case to the EU tribunal for guidance.

ECB Executive Board member Yves Mersch said in Frankfurt after the opinion that bond purchases under the OMT program are “ready and available” if needed. “We have always been of the conviction that OMTs are legally sound and in line with our mandate,” he said.

‘Red Lines’

Still, Cruz Villalon’s approach would for the first time draw “red lines” that the ECB may not transgress, said Roman Huber, managing director of Mehr Demokratie, a group representing some of the plaintiffs in the German case.

“This could block the ECB from meddling with day-to-day economic policy and transgressing its mandate,” said Huber. “The ECJ would proscribe a similar line like the German Constitutional Court: even to save the euro, you may not undermine democracy.”

German lawmaker Peter Gauweiler, another plaintiff in the underlying case, said the opinion, if backed by the EU court, would significantly limit the ECB’s powers. It would require the ECB to drop out of the troika monitoring of bailout countries, he said in an e-mailed statement.

For QE, he said Cruz Villalon’s stance also means “that the ECB can’t just start buying bonds on January 22, but must first publish a legal document as its basis. And that can be challenged in court.”

Deflationary Spiral

The euro weakened against the dollar after the opinion was announced before rebounding. It was up 0.3 percent to $1.1808 as of 5:28 p.m. in London.

The ECB is now fighting to stave off a deflationary spiral in the euro area after consumer prices fell on an annual basis last month. Policy makers remain divided on the need for quantitative easing, with German-led opposition claiming it increases taxpayer risk and undermines the incentive for governments to push through economic reforms.

Draghi signaled in an interview with Die Zeit published today that the ECB is ready to buy government bonds and is likely to announce fresh stimulus at its Jan. 22 meeting, warning that the euro area faces the threat of a deflationary spiral if the central bank doesn’t act.

“All members of the Governing Council of the ECB are determined to fulfill our mandate,” the ECB president told the German newspaper. “There are of course differences over how that should be done, but there aren’t endless possibilities.”

Greek Elections

While Draghi says the deflation threat warrants action, the final decision is further complicated by Greek elections on Jan. 25, which could bring to power a party seeking to restructure the nation’s debt.

“I consider that the OMT program is to be regarded as a monetary policy measure, provided that the ECB refrains -- once the time has come to put that program into effect -- from any direct involvement in the financial assistance programs of the ESM or the EFSF,” Cruz Villalon said, referring to the European Stability Mechanism and the European Financial Stability Facility, the euro area’s two rescue funds.

The OMT program is “necessary as well as proportionate in the strict sense, since the ECB does not assume a risk that will necessarily make it vulnerable to insolvency,” he said.

Other conditions include that “in the event of the program being implemented, the timing of its implementation is such as to permit the actual formation of a market price in respect of the government bonds.”

‘Pari Passu’

Cruz Villalon said that it was right for the ECB to accept the same treatment as private or other creditors, also known as pari passu status, for bonds purchased via OMT.

“A purchase by the ECB, as a non-preferential creditor, of the debt securities of a member state will inevitably involve a degree of distortion of the market, which appears to me, however, to be tolerable.”

Cruz Villalon has taken a “very smart approach,” said Joachim Wieland, law professor at the German University of Administrative Science at Speyer. “On the one hand, he grants the ECB its own competence and a wide leeway. On the other hand he shows that there are limits.”

A 15-judge panel at the EU court is expected to give its final decision on the OMT case about four to six months after this week’s opinion.

While the EU court usually follows such opinions, the court has been at odds with its advocates general in some high-profile cases. These include a landmark ruling in May concerning Google Inc. that gave citizens the right to be forgotten online. The U.K. lost a fight last January over EU short-selling rules even after an advocate general at the court had partly backed Britain’s stance.

The case is: C-62/14, Peter Gauweiler and Others.

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