Thursday, September 13, 2012

Has Germany's Federal Constitutional Court said “Yes” ? – Why the ESM is constitutional only under specific conditions and why this might not be the Court's last word


Germany's Federal Constitutional Court has issued, yesterday, an important decision on the future of the European Stability Mechanism (ESM).

As you can see on the graphs, financial markets were happy about the decision.

Are they right?

Background of the decision

In Germany, political institutions and even private individuals can introduce plaints against federal state laws. This case is one of such proceedings.

The plaintiffs addressed their complaint against

  • the law by which Germany ratifies the treaty on stability, coordination, and governance in the Economic and Monetary Union (The treaty provides for balanced (= structural deficit of 0.5 or 1 % of GDP at most) state budgets, possible correction mechanisms, a capped debt to GDP ratio, and possible economic partnership programs for the Eurozone.);
  • the law by which Germany ratifies the ESM treaty (The ESM protects the financial stability of the Eurozone by providing funding and other financial support to ESM members which face severe financing problems.);
  • the law by which Germany approves the modification of Article 136 of the treaty on the functioning of the European Union (The modification allows the EU member states to put a stability mechanism in place to ensure the stability of the Eurozone.).

Their main argument is that the above laws (and the underlying European legislation) violate the democratic principles as they are fixed in the German constitution. The line of reasoning is that the German parliament would transfer too many sovereignty rights to the EU and, in addition, deprive itself of its budgetary authority.

It is important to emphasize that the Court's decision has been issued in a preliminary proceeding. This means that, if the complaint is addressed towards the ratification of an international treaty (as is the case here), the Court will make “a broad appreciation of the reasons put forward for a violation of the constitution in order to assess whether or not the main proceeding will probably be successful or not”. In other words, as the Court has, today, rejected the complaint, it has told us that it is not highly likely that it will admit the complaint in the main proceedings. This is why today's decision may perhaps not be the final word of the Court.

The Court's reasoning

In the view of the Court, the German constitutional

  • prohibits the transfer of a competence comptence (= the authority to decide on and change its own competence) to the EU;
  • prohibits the assignment of plain authorities to the EU – Authority can only be transferred on a case by case basis;
  • reserves Germany's budgetary authority for the German parliament – It is the German parliament that must decide on revenues and expenses of the German state;
  • restricts the possibility of the German state to assume liability – Inter-governmental liabilities assumed by Germany must be clear, restricted, and subject to prior acceptance;
  • requires that the German parliament be sufficiently informed about inter-governmental liabilities that Germany assumes in order to be in a position to exercise its budgetary authority.

The Court does not answer the question when an inter-governmental liability is too large in size not to allow the German parliament any more to use its budgetary authority. In its view, such appreciation must be carried out by the parliament itself.

The treaty on stability, coordination, and governance in the economic and monetary union (TSCG)

The TSCG is in line with the above criteria: Even though it may limit the government's budgetary authority temporarily, it will also protect such authority in the long-run, the Court says. In addition, the degree of today's necessary limitation is up to the parliament and not to the Court to decide.

Article 136 III of the Treaty on the Functioning of the European Union

In the view of the Court, this new stipulation, by itself, does not affect the budgetary authority of the German parliament. In addition, it does not transfer specific competencies to the European Union.

European Stability Mechanism (ESM) Treaty

This part is the most important part of the decision. Beyond, this part of the plaintiffs claims is rejected only under some specific conditions.

First and foremost, Germany's liability under the ESM treaty is limited to 27 % of its 700 BEUR equity capital, e.g. 189 BEUR. This is the Court's main argument to declare the ESM in line with Germany's constitution.

However, the Court is wondering whether Germany's liability is really capped: On the one hand, article 8 (5) of the ESM treaty provides that “the liability of each ESM Member shall be limited, in all circumstances, to its portion of the authorized capital stock at its issue price”. On the other hand, article 25 (2) says that “If an ESM Member fails to meet the required payment under a capital call made pursuant to article 9 (2) or (3), a revised increased capital call shall be made to all ESM Members with a view to ensuring that the ESM receives the total amount of paid-in capital needed.”

In such a situation, the Constitutional Court conditions the complaints' refusal with an obligation of the German parliament to clarify the interpretation of the ESM treaty upon its ratification.

Second, article 32 (5) of the ESM treaty fixes the inviolability of its archives, article 34 sets out the obligation of professional secrecy for ESM personnel, and article 35 provides for immunity. In the Court's view, Germany can only be bound by the ESM treaty if it clarifies through the ratification process that the above stipulations will not hamper the German parliament's information rights.


Generally speaking, the decision of the German Constitutional Court is convincing.

In particular, the Court is right to point out that the extent of Germany's liability is not clearly regulated in the ESM treaty. In my view, it is very important to clarify this today: As a matter of fact, only 80 BEUR of the total 700 BEUR ESM capital are paid-in capital. Should additional paid-in capital be needed, all ESM members will be asked to pay their respective additional proportion as fixed in the ESM treaty. The problem, however, is that the ESM member state that asks for help will itself have to participate in additional paid-in capital requests. Now, how likely is it that the state who asks for help will have the cash to fund additional paid-in capital? Then, how likely is it that Germany will be asked to compensate for this amount?

Another important aspect of the decision seems to be the categorical interdiction to transfer any competence competence to the EU, namely as regards the parliament's budgetary authority. As a matter of fact, according to the optimum currency area theory (I have written about this here.), a unique European budget would ultimately be required for the Eurozone to work well. Germany's Constitutional Court seems to be more than reluctant to allow such transfer. This is not good news for Europe's current efforts to ameliorate the design of the Eurozone.


  • German law proposal, dated March 20, 2012, adopting the treaty on stability, coordination, and governance in the Economic and Monetary Union
  • German law proposals, dated March 30, 2012, adopting the ESM treaty and the amendment of Art. 136 of the Treaty on the Functioning of the European Union
  • Treaty on stability, coordination, and governance in the Economic and Monetary Union dated 2 March 2012
  • ESM treaty dated 2 February 2012
  • Decision 1390/12 of the German Constitutional Court dated 12 September 2012