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: Enforcement by the market

Flexibility alone cannot account for the extremely limited recourse to the EMU sanctioning apparatus. A second factor that contributes to explaining this phenomenon is the existence of other enforcement tools which may not fall as evidently within the traditional understanding of ‘sanctions’ in legal terms, but nevertheless perform a similar function.

The most important enforcement tool in EU economic policy is arguably market discipline. It is often assumed that surveillance over fiscal discipline and macroeconomic performance by Member States is essentially a task for public institutions, since private enforcers would be “hardly available”. In fact, private entities play a central role in ensuring the effectiveness of EU budgetary constraints. Rather than the threat of sanctions, it is pressure from financial markets that provides incentives for fiscal probity. Crucially, reliance on the disciplinary effect of financial markets was an intentional choice and has been a structural feature of the EMU design since the Maastricht Treaty. The TFEU contains a set of prohibitions aimed at subjecting Member States to the disciplining power of the market. Article 123 TFEU prohibits the monetary financing of public authorities by central banks, ensuring that the financing of Member States’ public debt occurs at market conditions. Article 124 supplements that prohibition by ruling out privileged access to financial institutions by public authorities, whereas Article 125 TFEU (so-called ‘no-bailout clause’) stipulates that neither the Union nor the other Member States may be liable for or assume the commitments of a Member State. In essence, these prohibitions aim to ensure that Member States resort to capital markets to finance their debt. In order to be able to raise capital, they must inspire confidence in their solvency. Accordingly, pressure from capital markets should provide a crucial incentive for Member States to pursue a ‘sound’ and sustainable fiscal policy.[1] In addition to those prohibitions, other rules are intended to amplify the disciplining effects of market pressure: in both the macroeconomic surveillance procedure and the EDP, the possibility of making recommendations public serves this purpose, making markets aware of the conduct expected of the Member State concerned. From a strictly legal perspective, pressure from financial markets may not easily fit within the notion of sanction. However, it performs a comparable function in economic terms, since it aims to prevent moral hazard and to incentivise fiscal probity.

After the financial crisis dramatically exposed the weakness of this design and the risk that the default of a euro area Member State would pose to the common currency, a somewhat permissive interpretation of the no-bailout clause and of the prohibition on monetary financing prevailed. The Court of Justice held in Pringle that the establishment of the European Stability Mechanism (ESM) for the purpose of granting financial assistance to euro area Member States was compatible with the Treaties and upheld the legality of ECB non-conventional monetary policy measures in Gauweiler5 and Weiss . The Court’s assessment of crisis-induced measures may be viewed as ushering in a transformation of the EU economic constitution, yet it certainly did not discard the assumption that market pressure would be needed to preserve the stability of the common currency. In Pringle, the statement that Article 125 TFEU did not prohibit outright financial assistance between euro area Member States was accompanied by the proviso that assistance would be permissible only if it did not remove the incentive to maintain budgetary discipline provided by the “logic of the market”.[2] The Court reached a similar conclusion with respect to Article 123 TFEU in Gauweiler, where it held that purchases of sovereign bonds on the secondary market may not be used to circumvent the objective underpinning the prohibition on monetary financing.

Since the outbreak of the financial crisis, market incentives have proven complementary to legal constraints in forcing Member States to pursue fiscal austerity policies. It was ultimately market pressure and the threat of being forced by lack of liquidity to exit the Eurozone that convinced the Greek government to agree to a deal over the bailout package in summer 2015 despite the outcome of a domestic referendum. Italy is another case in point. The need to contain the rise of interest rates on public debt was a source of restraint on expansive fiscal policy by the Italian authorities, making the recourse to formal sanctions by EU institutions unnecessary.

  • [1] “See M. Ruffert, ‘The European Debt Crisis and European Union Law’ (2011) 48 Common Market Law Review 1777,1786. 2 Article 121(4) TFEU; Article 126(8) TFEU. 3 A. von Bogdandy, F. Arndt, J. Bast, ‘Legal Instruments in European Union Law and their 4 Reform: A Systematic Approach on an Empirical Basis’ (2004) 23 Yearbook of European Law 91, 5 According to the Black’s Law Dictionary, “a ‘sanction’ is a penalty or punishment provided as a means of enforcing obedience to a law”. “0-370/12 Pringle, ECLI:EU:C:2012:756. 65C-62/14 Gauweiler and Others, ECLI:EU:C:2015:400. 6 113. 7 “C-493/17 Weiss and Others, ECLI:EU:C:2018:1000. However, the German Federal Constitutional Court declared this judgment, as well as the underlying decisions adopted by the ECB, as being ultra vires. See BVerfG, Judgment of the Second Senate of 05 May 2020 - 2 BvR 859/15 -, ECLI:DE:BVerfG:2020:rs20200505.2bvr085915. 8 See loannidis, supra note 59. 9 H. Schepel, ‘The Bank, the Bond, and the Bail-out: On the Legal Construction of Market Discipline in the Eurozone’ (2017) 44 journal of Law and Society 79.
  • [2] Pringle, para. 135-136. 2 Gauweiler, para. 101. 3 See V. Dendrinou, E. Varvitsioti, The Last Bluff (Papadopoulos Publishing 2019). 4 See M. loannidis, 'EU Financial Assistance Conditionality after “Two Pack”’ (2014) 74 Zeitschrift für ausländisches öffentliches Recht und Völkerrecht 61; A. Viterbo, R. Cisotta, ‘La crisi 5 del debito sovrano e gli interventi dell’U.E.: dai primi strumenti finanziari al Fiscal Compact’ 6 (2012) 17 II Diritto dell’Vnione Europea 323, 342-348. Prior to the crisis-induced reforms, a similar mechanism only existed for non-euro area Member States under Regulation 332/2002 on the provision of medium-term financial assistance for Member States’ balances of payment. According to Article 3(2)(b) of the Regulation, which does not apply to Member States whose currency is the euro, upon granting financial assistance to a Member State the Council shall determine “the economic policy conditions attaching to the medium-term financial assistance with a view to reestablishing or ensuring a sustainable balance of payments situation”. 7 In some cases, EU institutions and, in particular, the ECB resorted to informal tools, such as secret letters, to put pressure on some Member States to force them to enter into a structural adjustment programme or to adopt budgetary consolidation measures. On this form of implicit conditionality, see S. Sacchi, ‘Conditionality by Other Means: EU Involvement in Italy’s Structural Reforms in the Sovereign Debt Crisis’ (2015) 13 Comparative European Politics 77; A. Viterbo, ‘Legal and Accountability Issues Arising from the ECB’s Conditionality’ (2016) 1 European Papers 501.
 
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