German Constitutional Court and the Euro

The German Constitutional Court is expected to rule Tuesday July 10 on the request for a temporary injunction against the ESM and the fiscal pact on grounds that it transfers an unconstitutional amount of power to European institutions.  German press reports suggest that it is unusual for the Court to entertain requests for a temporary injunction.  The temporary aspect is sought to give the Court proper time to address the constitutionality of the new laws.  

We have previously noted that the Constitutional Court has shied away from outright rejection of government efforts to address the European debt crisis, but at the same time has insisted on preserving Germany's sovereignty through ensuring a important role for parliament.  

This clearly pits the court against Merkel's attempts to create a closer union.  If the court rules in favor of the injunction, it would most likely delay the start of the ESM.  That would leave the euro zone with the rump of the EFSF, which would have a bit less than 150 bln euro of guarantees after Spain's 100 bln euro bank backstop is provided.  

Granting a temporary injection would itself raise uncertainty and in the current environment such uncertainty would likely be seen by investors as negative for risk taking in general and another weigh on the euro,.  A final ruling against the ESM could trigger a constitutional crisis in Germany.   It could be resolved by a change in the German constitution or, as some have suggested, may require a constitutional convention. 

The risk seems asymmetrical.  If Constitutional Court rules in favor of the plaintiffs, the euro is likely to decline.  However, if the court rules against the plaintiffs, the euro is unlikely to advance very much.  The underlying debt problem remains and the existential crisis of how Europe is going to be governed remains open-ended.   

The euro recorded a new 2-year low against the dollar earlier today, but has stabilized in quiet turn-over near the middle of the pre-weekend range.  Initial resistance is seen near $1.2355.  A move above there runs into stronger resistance in the $1.2400-20 area.  Support for the single currency remains elusive with the $1.20 psychological level standing in the way of the 2010 low just below $1.1880.