Three weeks ago, the ECB re-announced its Securities Markets Programme (SMP), rebranded it Open Market Transactions (OMT), and added a provision providing for unlimited (yet sterilized) secondary market purchases of sovereign debt. Less than a week later, the German court ruled against an injunction that would have prevented the European Stability Mechanism (ESM) from being ratified in Germany, and just like that all was supposed to be fixed in the eurozone. If only it were that easy.
It turns out it isn't just Bundesbank President Jens Weidemann who thinks the OMT might violate the Treaty provision banning the financing of governments by the press: The ECB itself isn't sure its plan is legal. From Reuters:
ECB and Bundesbank in-house lawyers [are] checking both what proportions the program would have to take on and how long it would have to last for it to breach EU treaties.
In other words, the ECB is checking with its lawyers to see how long it could get away with vacuuming up toxic periphery debt, and the Bundesbank is checking with its lawyers to see how quickly it could cry foul.
The especially unfortunate part about this ordeal is that Reuters also noted that these legal maneuvers could very well be a precursor to a referral to the European Court of Justice (ECJ) for a binding decision on the matter. This should ring a bell for investors: The think tank Europolis, which filed suit in Germany just prior to the German Constitutional Court's decision on the ESM earlier this month, also said it believes the ECJ should decide on the legality of the ESM. This sets the stage for both the ESM and the OMT to be challenged at the ECJ, a decidedly unwelcome prospect if you are a euro bull or a struggling periphery government.
Meanwhile, parts of the ESM's strategy for deploying the 500 billion euros at its disposal were leaked to the press Tuesday and, strangely, the plan doesn't seem to allow for the purchase of Spanish and Italian debt. From Bloomberg:
Europe's permanent rescue fund will invest the core of its assets in AA or higher-rated debt issued by governments, central banks, euro-area agencies and international institutions.
Obviously, this would seriously dent the ESM's ability to purchase Spanish and Italian bonds. Of course, it isn't clear from the Bloomberg piece what is meant by "the core of its assets," and based on the rest of the article it appears as if the passage quote above could refer to 15% of the total capacity -- meaning that the remaining 85% could be used to purchase periphery debt in the primary market.
But even if this is the case, it means that an already hopelessly underfunded rescue vehicle will be shy another 75 billion euros or so if it confines 15% of the total capital to assets other than periphery debt. Note also that excluding commitments, the ESM has only 400 billion euros. So, taking 75 billion from that and setting it aside as the "core" means that only 325 billion euros are available for Spain and Italy.
The mounting legal issues concerning the rescue funds and emergency measures are evidence of how untenable the eurozone's "solutions" truly are. The problem is that each new "fix" requires months of deliberation and discussion while the periphery continues to hemorrhage money and fall deeper into debt. In short, they are simply pouring water into a cup with holes in it, and they can't pour fast enough to fill it back up. Play for more volatility and uncertainty ahead with short positions in overbought European equities (FEZ) and the euro (FXE).