FOCAL POINT: GERMAN CC RULING: HOW MUCH PAIN FOR THE ECB?

Highlights:

• The German Constitutional Court (CC) judged the ECB’s Public Sector Purchase Program (PSPP) as partly unlawful as the German parliament did not demand a justification of it by the ECB but also ruled that it was no state financing.
• While a formal proof by the ECB that the PSPP is needed could easily allow the Bundesbank to proceed participating in the PSPP, the criteria for state financing will limit the ECB’s future policy leeway significantly.
• There will be additional stress on the functioning of EMU, damage to the ECJ and likely be a headwind for the application of EU law in critical circumstances, e.g. Hungary. But if the threat to EMU becomes threatening, deeper integration could follow.
• European government bond markets reacted with a modest spread widening to the ruling. As the immediate consequences are likely to remain limited, we do not expect a disproportionate market reaction in the near term. But the reduced ECB flexibility and the additional layer of uncertainty justify a slightly higher risk premium for the time being.

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