To the surprise of almost nobody, on 12 September the German Federal Constitutional Court approved the formal ratification of the Treaty creating the European Stability Mechanism (the “ESM Treaty”), but imposed various conditions that are designed to ensure that any increase in German contributions to the fund are appropriately approved under domestic legislative procedures.

The Court’s decision is, understandably, a lengthy and detailed document.  The present advisory outlines some of the key legal issues arising from the decision, and also considers some of the wider implications.


At the outset, it may be helpful to recount a few brief points about the objectives and structure of the ESM:

  1. as recorded in Article 3 of the ESM Treaty, “….The purpose of the ESM shall be to mobilise funding and provide stability support under strict the benefit of ESM Members which are experiencing, or are threatened by, severe financing problems, if indispensable to safeguard the financial stability of the euro area as a whole and of its Member States…”; 
  2. the ESM is an international financial organization created by treaty.  This is to be contrasted with the position of the European Financial Stability Facility, which is a domestic corporation established in Luxembourg;
  3. the initial capital of the ESM is €700,000 million;
  4. under the terms of Annex II to the ESM Treaty, Germany's contribution to the ESM's capital is stated to be €190,024,800,000; and
  5. the capital requirements are to be reviewed at least every five years, and any required increase will take effect once all ESM Members have completed applicable national procedures for that purpose.

The Court’s Decision – Overview

In its essence, the Court’s decision allows for the ratification of the ESM Treaty by Germany, subject to the following reservations:

  1. Germany’s liability to contribute funds to the ESM cannot be increased beyond €190,024, 800,000 without the agreement of the German legislature; and 
  2. obligations of confidentiality created by the ESM Treaty must not override the right of the German legislature to receive comprehensive information about the activities of the ESM. 

These conditions are important because –as a condition to ratification-- the court’s ruling requires those stipulations to be binding as a matter of public international law.  In other words, these reservations must be effectivley accepted by to other ESM Member States in order to finalize the German ratification process.

It is necessary to consider these two stipulations in more depth.

The Liability Cap

As note above, the ESM is an international financial organization created pursuant to the terms of the ESM Treaty.  In broad terms, the member countries of such organizations expect them to operate in a manner similar to a corporate body, in the sense that:

  1. the members are not required to put up further capital unless they specifically agree to do so; and 
  2. the organization is separate from its members and incurs its own, independent obligations. 

To that end, Article 8(5) of the ESM Treaty contains an entirely standard provision to the effect that:

The liability of each ESM Member shall be limited, in all circumstances, to its portion of the authorised capital stock at its issue price.  No ESM Member shall be liable, by reason of its membership, for obligations of the ESM.

In spite of this apparently clear language, the Court identified a possible area of uncertainty in the ESM Treaty which might result in an increase of Germany’s financial liability beyond the pre-set limit set out in Annex II.  In particular, Article 9(2) allows the Board of Directors to “…call in authorized unpaid capital by simple majority decision to restore the level of paid-in capital if the amount of the latter is reduced by the absorption of losses….”  The Court observed that, on some interpretations, this could have the effect of increasing Germany’s financial liability beyond the stated liability cap.  This would be constitutionally unacceptable because the government is not authorized to delegate its responsibility for national budgetary decisions. The view adopted by the Court in the context of Article 9(2) is open to debate but the judges' caution on this issue is perhaps understandable.

It was for this reason that the Court required the German government to impose a reservation to the ESM Treaty to the effect that none of its provisions may be interpreted or applied so as to require Germany to make payments in excess of the liability cap unless this has been separately approved by the German legislature.  The Court went further, and required the government to state that it cannot regard itself as bound by the ESM Treaty at all unless the liability cap reservation is held to be effective.

Although apparently a far-reaching limitation, this stipulation is unlikely to cause great concern among other ESM Member States. For practical reasons, they are likely to have favoured a more conservative approach to the interpretation of Article 9(2) and the "excess liability" problem envisaged by the Constitutional Court is therefore unlikely to have arisen in practice.

The Transparency Issue

Separately, the Court observed that – as part of its responsibility for budgetary matters—the German legislature is required to monitor the activities of the ESM, and that it would clearly require an adequate flow of information in order to perform that function.

The Court noted that certain provisions of the ESM Treaty could be seen as inconsistent with these requirements. In particular:

  1. Article 32(5), which provides that all the documents and archives of the ESM shall be inviolable. 
  2. Article 34, which requires members of the Board of Governors and the Board of Directors to maintain confidentiality in relation to any information that is subject to professional secrecy; and 
  3. Article 35(1), which provides for Governors and Directors of the ESM to be immune from all legal proceedings in connection with their official activities and to enjoy inviolability in relation to their official documents. 

The Court noted that the various confidentiality provisions described above did not include exceptions for disclosures of information to national parliaments.  Since the responsibility for budgetary matters rests with the German legislature, it was important that it should be entitled to receive complete information about the activities of the ESM from its German representatives.  Once again, therefore, the Court required the government to enter a reservation to the ESM Treaty to the effect that these provision would not prohibit the transfer to the German legislature of such information about ESM’s activities as may be required in order to develop an informed opinion on budgetary matters.  In addition, Germany had to state that it would not be bound by the ESM Treaty if this reservation were ineffective.

Effect of the Reservations

Under the terms of the Vienna Convention of the Law of Treaties, it would appear that the reservations required by the Court’s decision would have to be approved by the other ESM Member States or, at least, they must not overtly object to them.

Given the importance of Germany’s participation in ESM, it is perhaps unlikely that the other Member States will object to these reservations in any event. However, it may be that political sensitivities and a need for parity of treatment will lead other ESM Member States to seek a similar proviso. This may be difficult in some respects, because a number of Member States have already ratified the treaty and it is not technically possible to enter a new reservation to a treaty once that process has been completed. No doubt governments will find a way of dealing with this issue without requiring changes to the ESM Treaty itself, which would obviously delay matters.

Other Issues

The Court’s decision touches on a number of other issues that may require further consideration at a later date and in other contexts.  In particular:

  1. it had been alleged by the applicants that the ESM could be used “…as a vehicle of unconstitutional state financing by the European Central Bank…”.  In other words, the ESM could borrow funds from the ECB and use the proceeds to acquire sovereign debt.  This would amount to a form of “monetary financing” which would contravene the “no bailout” provision in Article 123(1) of the Treaty on the Functioning of the European Union (“…Overdraft facilities or any other type of credit facility with the European Central Bank… in favor of Union institutions, bodies, offices or agencies, central governments, regional, local or other public authorities, other bodies governed by public law or public undertakings of Member States shall be prohibited, as shall the purchase directly from them by the European Central Bank…of debt instruments…”); 
  2. the Court held that the ESM is a “public sector” body for the purposes of Article 123, with the result that it would be unlawful for the ECB to provide it with loan or other facilities.  Yet it may be argued that the ESM may not fall within the Article 123 prohibition.  The ESM is not a “Union institution,” since the ESM Treaty has been executed only between some (but not all) EU Member States and thus does not amount to an EU Treaty in the strict sense.  Furthermore, references in Article 123 to public agencies appear to refer to bodies established within the national legal framework of a Member State.  The ESM does not fit this definition since, as noted above, it is an international organization created by treaty; 
  3. nevertheless, it must be said that, in its opinion on the original treaty provisions allowing for the creation of the ESM, the ECB has made clear its own view that the ESM would not be eligible to be a counterparty to its open market operations, and has cited Article 123 as the basis for that view. This is probably the correct approach to Article 123 in this context, bearing in mind the underlying purpose of the "no bailout" clause; and 
  4. the judgment of the Constitutional Court also notes that an ESM borrowing from the ECB on the security of euro zone sovereign bonds would infringe the Article 123 prohibition on the direct acquisition of government debt, and such an arrangement would thus also be prohibited from that perspective. 

Although these points are perhaps not of immediate concern, the implications of the “no bailout” clause may be raised in legal challenges to the programme of Outright Monetary Transactions (“OMTs”) announced by the ECB on 6 September (on this subject, see our advisory, “Saving the Euro”)


Germany may now proceed to ratify the ESM Treaty, subject only to the relatively minor reservations required as a result of the Constitutional Court’s decision.

This development, along with the recent decision of the ECB to establish its OMT programme, is a significant step in establishing the legal and financial framework that is necessary to restore and enhance confidence in the euro.