The past two years have been a slam-dunk for Eurocrats. Yields have come down to pre-recession levels and headlines in mainstream media point at an economic recovery in the euro zone. While nobody paid attention, however, something major happened in Europe. A very important piece of information has been swept under the rug by conventional media outlets: Germany’s Constitutional Court ju
The past two years have been a slam-dunk for Eurocrats. Yields have come down to pre-recession levels and headlines in mainstream media point at an economic recovery in the euro zone. While nobody paid attention, however, something major happened in Europe. A very important piece of information has been swept under the rug by conventional media outlets: Germany’s Constitutional Court just placed a bomb on any illusions that Eurocrats might have had, paving the way for a $2.000 gold price.
Many eyes were pointed at Germany while everyone impatiently awaited the verdict of the German Constitutional Court to whether the Outright Monetary Transactions ("OMT", the Euro's QE-equivalent) by the European Central Bank was against the law. The ruling was picked up by mainstream media and soon translated to a conclusive headline: “German Constitutional Court Bows for Draghi”, they would state, arguing that “according to the court, Germany is powerless to impose a veto.”
Bloomberg stated: “By a vote of 6-2, the German judges sided with the Bundesbank (...) in arguing that Draghi’s ECB overstepped its authority in rolling out the bond-buying initiative known as Outright Monetary Transactions, or OMT”, yet “at the same time, acknowledging that Europe’s largest economy is bound by EU laws, the court stopped short of overstepping its own authority.” Commentators were early to, well, comment. “They’re copping out”, according to Charles Dumas, chairman of Lombard Research. “The German court, which everyone’s so frightened of, turns out to be a bit of a toothless tiger.”
However, it appears some market commentators haven’t thought it through careful enough. Yes, the Germans did refer the issue to the European Court of Justice in Luxembourg. But they didn’t leave it at that. Unlimited bond purchases of fiscally distressed Euro member states are “incompatible with European law”, the court said. OMT “exceeds the mandate” of the ECB and buying bonds on secondary markets are a “circumvention” of the restriction of direct government financing. The ECB’s actions are probably “beyond powers”. A clear statement that Germany will not budge when it comes to reckless bond-buying, as the hyperinflation of the Weimar Repubic is still seen as a clear example of what can happen with such foolhardy money printing.
Wolfgang Münchau — writer of the Financial Times — has done a great job summarizing the “what’s next?”: ‘If you look back to all the previous German constitutional court cases on the euro, the answer was always a variant of “Yes, but”. This ruling was the legal equivalent of “No, no, no” – with one important addition. The court is asking the ECJ to clarify important points of European law, including whether OMT is covered by the ECB’s mandate; whether OMT needs to be capped; whether it violates the sovereignty of national parliaments; and whether it constitutes monetary financing of government debt [emphasis mine]. It seems that the German Court is not copping out, but merely awaiting some further aclarification by the European Court of Justice on European law before coming to a final verdict.
The next step in this dreading procedure will be thus a ruling by the European Court of Justice on the above mentioned issues. Will the European court side with the German court? Many commentators seem to think they won't, but that might not be the end to it all. If the European court backs the ECB, the German Bundesbank and other German institutions might be compelled to follow German constitutional law — the law that states that direct financing is completely out of the question. We might end up having a European constitutional crisis.
The German court did seem to have wiped the ECB’s Outright Monetary Transaction (OMT) of the table. OTM hasn’t been used so far, but it did lead to investors unwilling to fight against goliath — the ECB with its printing presses has, after all, an unlimited wallet. As Germany’s highest court now publicly condemned OMT, it doesn't seem that the German Court is toothless, but rather the ECB in its “everything it takes”-attempt to save a failing currency by printing unlimited amounts of money. Although OMT hasn't been used yet, it's mere installation was key to getting sovereign yields down. As uncertainty creeps in about the legitimaticy of OMT and whether the ECB will have enough backing to actually put it to use, a renewed euro crisis appears to be around the corner.
The last time uncertainty wrecked havoc on the European sovereign markets was in 2011 (and partially 2012). As PIGS-bond yields skyrocketed, the gold price reached its record high of almost $1,900 p/toz. Investors all around the world worry about the euro crisis; a revival of the euro crisis today would most certainly mean higher gold prices. And the ruling by the German Court did increase the odds of an outcome that won’t please Draghi and the Eurocrats by leading to severe market turmoil.
The ultimate contrarian trade? Buy gold and short Spanish and Italian bonds. Include some French bonds as well, if you want to go nuts.