Over the past few weeks, there has been increasing talk of the possibility of Greece leaving the euro. There has also been significant discussion of proposals to adopt a "growth pact" and other measures to solve the financial crisis such as the issuance of so called Eurobonds and/or the ECB engaging in a looser monetary policy. While there has been a lot of commentary on the economic, political and practical consequences of such action, legal aspects are considered in much less detail.

This e-bulletin answers key questions related to a euro exit by an EU Member State and EU financial crisis measures more generally. The questions are answered with a particular focus on legal rules contained in the EU Treaties, i.e. the Treaty on European Union ("TEU") and the Treaty on the Functioning of the European Union ("TFEU").

  1. Can a Member State be forced to leave the euro/EU?

The EU Treaties simply do not provide for forced expulsion from either the euro or the EU.  

Article 7(3) TEU does permit the Council to suspend treaty rights where there is a serious and persistent breach of the values referred to in Article 2 TEU (e.g. democracy, equality, the rule of law). It is questionable whether this provision would be of relevance in the case of a Member State's exit from the euro. However, due to the fact that Article 7(3) also specifically states that "[t]he obligations of the Member State in question under this Treaty shall in any case continue to be binding on that Member State", it could not in any event be used to force a Member State to leave the euro or EU.  

Notwithstanding the lack of an EU Treaty provision expressly authorising expulsion, other measures could indirectly have the same effect in practice, e.g. a decision by other euro zone Member States/the EU to cease funding under the various bail-out programmes and/or a decision by the ECB ceasing to provide liquidity to the Member State's banks. In such a situation, the Member State concerned may face such financial difficulties that it would be forced to decide to leave the euro in order to restore its monetary sovereignty and introduce a new currency.  

  1. Can a Member State decide to leave the euro/EU and how?

No provision of the EU Treaties permits a Member State to leave the euro once it has joined. The establishment of monetary union was seen as an irrevocable act and hence the Treaties did not foresee any possibility of an exit. Therefore, an exit strictly in accordance with the law could probably only be accomplished in one of two ways:  

  • The EU Treaties are amended to permit exit from the euro – Amendments to the Treaties are governed by Article 48 TEU (for a more detailed explanation of the Treaty amendment procedures, see page 6 of our July 2010 e-bulletin). Any amendment would require, among other things, ratification by all Member States. If a Member State needed to leave the euro quickly, it is questionable whether there would be sufficient time for negotiation of relevant exit provisions and ratification by all Member States, especially those which require a referendum approving Treaty amendments, if applicable. While there is a possibility of framing a measure to allow for retrospective secession, or using a unanimous Council Decision pending Treaty change and so allowing for retrospective validation of the secession, the legality of these measures would be in doubt for some time.
  • The Member State exits the EU - Pursuant to Article 50 TEU, withdrawal from the EU is possible following the negotiation and conclusion of an agreement or, failing that, two years after notification. Unlike the treaty amendment scenario, exit from the EU does not require ratification by all Member States (rather only a qualified majority of the Council and consent of the Parliament). Therefore, this course of action could provide a speedier solution, although its downside would obviously be that the Member State would have to forego its EU membership, but might be able to ameliorate the consequences by negotiating a free trade agreement and provisions to assist migrant workers (see question 3 below).  
  1. How can a Member State negotiate its terms of exit from the euro/EU and a possible re-entry?

Article 50(2) TEU provides the basic parameters for leaving the EU. That provision establishes that a negotiated exit must take the form of an international agreement between the withdrawing Member State on the one hand and the EU on the other. Negotiations are based on guidelines provided by the European Council and the fundamental aim of the negotiations is to set out the arrangements for withdrawal, "taking into account the framework for its future relationship with the Union".  

One relevant question related to a Member State withdrawal from the EU is whether simplified or specific re-entry terms could be negotiated as part of an exit agreement in order to make re-entry easier. Article 50(5) TFEU appears to prohibit this since it provides that "[i]f a State which has withdrawn from the Union asks to rejoin, its request shall be subject to the procedure referred to in Article 49". Article 49 TEU is the principle legal provision pertaining to application for EU membership.

Although the "normal" entry requirements would apply to a former Member State that wishes to rejoin the EU, in practice, re-entry would be simplified in many respects since the laws of that State would already be substantially aligned with those of the EU and this is a key requirement to become a Member State of the EU. Nevertheless, since the ability to adhere to the objectives of political, economic and monetary union is a fundamental requirement for accession to the EU, a request for re-entry by a country that has exited the EU for the purpose of having more flexibility in economic and monetary operations could be questioned on this basis. However, in this respect, it should be noted that there are currently several Member States which are within the EU but do not yet participate in monetary union. Moreover, this requirement is not contained in the EU Treaties themselves and therefore it could be modified for a country that wishes to rejoin the EU.  

  1. Can a Member State impose capital movement restrictions?

It is widely expected that if Greece or another other Member State were faced with a "bank run" situation and/or decided to leave the euro, the country would need to establish capital movement restrictions to prevent flight of capital to other jurisdictions.  

Article 63 TFEU prohibits Member States from imposing restrictions on the movement of capital and payments between Member States, and between Member States and third countries unless justified by an exception. Article 63 TFEU exceptions include:

  • procedures for the declaration of capital movements for the purposes of administrative or statistical information;
  • measures which are justified on grounds of public policy or public security; and
  • certain action taken with respect to non-EU countries.  

In the context of a crisis related to euro matters, a Member State would probably need to rely on the exception for measures justified on grounds of public policy or public security if it wanted to impose a capital restriction.  

Under EU law, measures adopted for such purposes would only be justified if they are non-discriminatory, in fact pursue legitimate public policy or public security aims and are proportionate to those aims (that is, they are not more restrictive than necessary to achieve public security or public policy goals). Traditionally, the EU Court of Justice has interpreted these exceptions and their related requirements restrictively.

Therefore, whether EU law, as it currently stands, would permit a Member State to adopt any particular capital control or moratorium would not be certain. In practice, the willingness of other Member States to accept this would be vital.

  1. Can the EU agree on a "growth pact" and, if so, can this be done legally?

In December 2011, EU leaders agreed on a new "fiscal compact" designed to strengthen the "economic" pillar of the existing EU economic and monetary union, with the main innovation being stricter and binding requirements for budget deficits. In principle, new deficit requirements and other "fiscal union" type requirements could be implemented by amending the EU Treaties (see page 5 of our July 2010 e-bulletin discussing fiscal unions). However, failure to obtain agreement from the United Kingdom and the Czech Republic meant that the compact could only be adopted as a separate international treaty.  

On 2 March 2012, the fiscal compact treaty -- officially called the "Treaty on Stability, Co-ordination and Governance in the Economic and Monetary Union" -- was signed by all of EU Member States except the Czech Republic and the United Kingdom. The treaty is expected to enter into force on 1 January 2013. The main elements of the treaty are so-called "fiscal compact" and economic coordination and governance provisions.

Click here to view table.

Although the fiscal compact treaty has been signed by nearly all Member States, it has been subject to much criticism. One of the main complaints is that the austerity emphasis of the treaty is alone insufficient to resolve the budgetary crises of Member States. Hence, the revived calls for a "growth pact" by EU leaders. It has not yet come into force as it awaits ratification in some Member States, including Ireland which requires a referendum.  

At this stage there is no specific information on what the "growth pact" would comprise. However, potential action that has been discussed in this context includes (1) tax measures (e.g. tougher tax enforcement and "growth-friendly" taxes), (2) increasing the capitalisation of European Investment Bank ("EIB") so that it can expand its investment capacity, (3) project bond support, and (4) a further cut in interest rates by the ECB.  

A growth pact could be adopted, like the fiscal pact, as an intergovernmental treaty, by use of existing measures under the Treaties or, if all Member States are in agreement, as an amendment or supplement to the EU Treaties. In principle, all of the specific measures envisaged could be adopted without conflicting with EU law. Even to the extent that EU law means would be needed to effectuate any of the measures, Member States could commit to take certain action in the context of an international treaty (e.g. vote in a certain manner where possible) or more generally to pursue such objectives.  

  • Tax measures – Issues of direct taxation fall largely outside the scope of the EU Treaties, i.e. they remain principally the competence of the Member States. Therefore, any binding agreement regarding these issues would likely need to take the form of a treaty between relevant Member States or through an amendment of the EU Treaties which would, however, be unlikely to be achieved as unanimity is required and such measures could be resisted by a number of member states.
  • EIB capitalisation – EIB matters are governed by the EU Treaties and therefore action would have to comply with those instruments. In accordance with Article 4 of the EIB Statute annexed to the Treaties, decisions to increase capital are possible so long as there is a unanimous decision by the Board of Governors (which consists of a representative from each of the EU Member States). Expansion of investments is also permitted so long as the investments comply with Article 309 TFEU. On the basis of this provision, the EIB is authorised to grant loans and give guarantees which facilitate the financing of projects for less-developed regions and certain other projects of a size or nature which cannot be entirely financed by individual Member States, including those which relate to modernising or converting undertakings.
  • Project bond support – The idea behind project bonds is that the EU and the EIB would provide financial support in the form of guarantees and other types of credit enhancement to companies issuing bonds to finance large-scale transport, energy, information and communication network infrastructure projects. The support from EU sources would have the effect of improving the credit quality of the bonds issued by the companies. In turn, it is hoped that this would stimulate investment.  

In October 2011, the Commission proposed to launch a pilot phase comprising €230 million in EU support for the 2012-2013 period. Recently, the proposal received provisional approval from the European Parliament (the final vote will be in early June). The pilot phase would draw on budget lines from the Trans-European Networks ("TEN") Regulation1 and the Competitiveness and Innovation Framework ("CIF") Decision.2 The Commission's proposal seeks to amend those legislative instruments, inter alia, to allow the EU to make financial contributions to the EIB which, in turn, would be used to support loans or guarantees issued by the EIB with respect to project bonds. The TEN and CIF instruments are based on EU Treaty financing competences concerning infrastructure projects of common interest, measures that contribute to the competitiveness of EU industry, and action to support territorial cohesion.  

In general, the EU and the EIB have significant powers to provide financial support for European projects. For EU financing, one of the main restraints is Article 310(4) TFEU which prohibits the EU from adopting "any act which is likely to have appreciable implications for the budget without providing an assurance that expenditure arising from such an act is capable of being financed within the limits of the Union's own resources". As a consequence of this provision, EU guarantees must be strictly limited and cannot be based on contingent liabilities. Since the funds of the EIB are separate from those of the EU, it is not constrained by this specific criterion. Like the ECB and EFSF, the primary source of the EIB's funds is capital subscribed by the Member States.  

  • ECB cut in interest rates – As established by Article 130 TFEU, the ECB is a completely independent institution under EU law and may not take instructions from the EU Member States, other EU institutions or any other body. This means that a decision to decrease interest rates could only be taken by the ECB: euro zone Member States could not conclude a treaty or otherwise require the ECB to cut interest rates. The ECB sets interest rates in view of its Article 127(1) TFEU obligation to maintain price stability.
  1. Does EU law permit "Eurobonds"?

A "Eurobond" would entail a full or partial pooling of the sovereign issuance of euro zone Member States and an associated single benchmark yield. This lower interest rate would, in turn, lower the cost of debt-servicing for many Member States and, more importantly, reduce volatility in the euro area financial markets.  

Whether EU law would permit any Eurobond scheme would depend on its specific nature. Article 125(1) TFEU prohibits either the EU or Member States from assuming the liability of other Member States (this is colloquially known as the "no bail-out clause"). This requirement means that, as the EU Treaties stand now, any Eurobond system could not entail a type of "joint and several" liability, i.e. a promise that, in case of a default by any Member State, other participating Member States would become responsible for the payment of the debt. However, many consider that Eurobonds would not achieve their intended result without a significant joint and several liability undertaking. Therefore, in practice, a Treaty amendment may be required.  

Other types of measures with similar effects such as issuance of EFSF bonds or indirect bond buying by the ECB could also be used. See our previous July 2010 e-bulletin where these issues were addressed at pages 4 to 5). However, there does seem some willingness to contemplate cross guaranteed project bonds.

  1. Can the ECB print more money?

Article 128(1) TFEU gives the ECB the exclusive right to authorise the issue of euro currency. To date, the ECB has indicated that it cannot simply "print more money" to ease the debt difficulties of Member States due to the fact that, Article 127(1) TFEU provides that "The primary objective of the European System of Central Banks … shall be to maintain price stability".  

Recently, many have questioned whether the ECB interprets the "price stability" requirement in an overly rigid manner. While inflation is a consequence of printing more money, critics contend that such action would nevertheless be in the interest of price stability since it would protect against a more severe economic crisis and the associated negative price effects. It does therefore appear legally possible to interpret the relevant Treaty provision in a more flexible manner to permit the ECB to print more money and still adhere to its objective of price stability.