Thursday, 17 November 2011

Legal Issues of ECB Lending to the IMF

News reports suggest that officials from the ECB and the IMF have been discussing a plan in which the IMF would purchase EMU member state sovereign debt using loans from the ECB. In fact, rallies in the euro and in equities earlier today have been attributed to this story.

This plan would be an unlikely development for a number of reasons, particularly given the legal prohibition against monetary financing of member states by the ECB.

ECB financing and the IMF

As recently, as 9-Nov-11, the ECB issued a legal decision clarifying that a member of the European System of Central Banks (ESCB) could provide monetary financing of a Member State's obligations to the IMF, consistent with Article 7 of Regulation (EC) No 3603/93 issued by the Council of the European Union.

However, the suggestion here is not to provide financing to a Member State to give to the IMF. Rather, the proposal reported today is to providing financing to the IMF to give to Member States. And this is an issue that the ECB already has addressed.

ECB already has ruled out this aproach

The ECB offered a legal decision on 17-Mar-11 in which it stated that lending by the ECB to the ESM would not be consistent with EU Treaties and Statues. To see whether the logic of that decision applies to the IMF, it's useful to carefully consider the relevant two paragraphs in the decision.

"With respect to the role of the ECB and the Eurosystem, while the ECB may act as fiscal agent for the ESM pursuant to Article 21.2 of the Statute of the European System of Central Banks and of the  European Central Bank (hereinafter the ‘Statute of the ESCB’), in the same way as under the Union’s  Medium-Term Financial Assistance Facility, the EFSM and the EFSF, Article 123 TFEU would not  allow the ESM to become a counterparty of the Eurosystem under Article 18 of the Statute of the ESCB.

On this latter element, the ECB recalls that the monetary financing prohibition in Article 123 TFEU is one of the basic pillars of the legal architecture of EMU both for reasons of fiscal discipline of the  Member States and in order to preserve the integrity of the single monetary policy as well as the  independence of the ECB and the Eurosystem."

As mentioned in my last post, Council Regulation (EC) No 3603/93 of 13 December 1993 interprets Article 123 of the Treaty for the Functioning of the European Union (formerly Article 104 of the Maastricht Treaty) so as to preclude monetary financing via third parties. The EU decision applies this logic to the ESM as a third party and concludes that the ECB is not permitted to lend to the ESM. Application of the same legal argument to the IMF would be expected to lead to a similar decision.

The Views of Bundesbank President Weidmann

In fact, Bundesbank President Jens Weidmann addressed this issue directly in an interview published with the Financial Times at the beginning of the week.

FT: Some in Washington have suggested the ECB could lend, directly or indirectly, to the IMF, which could then help Italy. Would you rule that out as a possibility?

JW: Again, the crucial point is that the eurosystem is not permitted to lend to eurozone member states – no matter whether this is done directly or indirectly by using the IMF as an intermediary.

The bottom line

The Treaties, Statutes, Regulations, and Decisions of the EU prohibit monetary financing of Member States, directly and indirectly -- a point reiterated just this week by the President of the Bundesbank. As a result, it seems today's story is a canard -- a trial balloon with the intent by mid-level finance ministry functionaries to find some creative solution to the debt crisis. My sense is that they'll need to keep trying, as this proposal appears very unlikely to be implemented.

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