ECB vs. Member State Sovereignty

Published June 2013

Monetary Policy of the European Central Bank and its Relationship to Member State Sovereignty

May 6, 2010 was a memorable day for anyone working in the American stock market.  It was a Thursday afternoon with light trading volumes and European markets had already closed for the day.  Heading into the final hours of trading in New York City, the Dow Jones Industrial Average looked to close a couple hundred points, or about 2 to 3% lower, which was not an alarming decline, as heightened volatility had become the norm.  The usual headlines influenced trading activity, such as uncertainty in the euro zone with respect to the ongoing debt crisis in Greece.  Suddenly, the domestic indices plummeted in excess of 6% due in part to Greece passing harsh austerity measures amid violent opposition and European Central Bank inaction.  This is a significant drop for the market index, as further declines would have triggered New York Stock Exchange circuit breaker levels and caused the market to close immediately, at least temporarily.  Rumors of a malicious market manipulation instantly swirled, though the major indices made a prompt and remarkable recovery before the closing bell even sounded with the Dow ending just about 3% lower.  The United States Securities and Exchange Commission later attributed the sharp drop, or ‘flash crash,’ to high frequency trading and thin volumes, which thereby severely limited liquidity causing fewer trades to have a much more substantial impact on stock prices. 

Regardless of the technical factors that contributed to the highly unusual trading activity that afternoon in New York, the relevant subjective factors are irrefutable.  Debt concerns in Europe had dominated the headlines for months, consistently exuding negative sentiment, and have continued up to the present day. 

It was, and perhaps still is, difficult for the common, American market participant to comprehend how debt issues across the Atlantic could have such a severe impact on the domestic stock market in the United States.  Yet since the European Central Bank dictates the monetary policy of the European Union, it influences the value and investment profile of a dominant world currency.  As demonstrated on May 6, 2010 and over the past few years, the Bank’s policies and actions, or lack thereof, can have a profound effect on the global market. 

Meanwhile, some market commentators may have started to feel like broken records:  reciting the same scenario and trading drivers every day.  To some degree, trading drivers are always repetitive:  economic data, corporate earnings, merger and acquisition activity, etc.  However, the concept of a currency bloc, consisting of sovereign nations, but bound by monetary and economic union, is wholly new and unprecedented.  The concept of a bailout within the European Union is an even more recent phenomenon than the Union itself as earlier versions of the Treaty prohibited the existence of any form of overdraft facility or the obligation of the Union to inherit the burden of Member State debt and vice versa.  To effectively address the debt challenges that face the euro zone today, one must first examine the creation of the euro and European Central Bank, the economic and legal implications of monetary union, the Bank’s intended functions and actual capacity, and then gauge the viability of this union given current conditions.


The creation of the euro and European Central Bank

  1. The Treaty on European Union
  2. Economic and legal implications of a common currency
  3. Procedural aspects

The Union at Present

  1. Motivation and description of bailout legislation and process
  2. Case study: Cyprus

What lies ahead for the euro zone?

  1. The extent to which current legislation allows for ECB influence
  2. Potential solutions to debt crisis
    • Secession
    • Fiscal union
    • Euro bonds
    • Dissolution
  3. Alternatives to monetary unionConclusion
    • Denmark
    • Switzerland


List of Citiations and Sources

Consolidated Versions of the Treaty on European Union and of the Treaty on the Functioning of the European Union [2008] OJ C115

De Grauwe, Paul.  Economics of Monetary Union.  Oxford:  Oxford University Press, 2012.  Print.

Denmark and the Treaty on European Union [1992] OJ C348

“Economic Indicators:  Inflation.”  Global Rates. Triami Media BV:  April 2013.  Web.  27 May 2013.

Emerson, Michael et al.  One Market, One Money: An Evaluation of the Potential Benefits and Costs of Forming and Economic and Monetary Union.  Oxford:  Oxford University Press, 1992.  Print.

“GDP.”  World Bank Data.  The World Bank Group.  Web.  24 April 2013.

Giles, Chris.  “Capital Economics wins Wolfson prize.”  Financial Times.  Financial Times 5 July 2012.  Web.  21 May 2013.

Gruber, Georg and Benisch, Martin.  Privileges and Immunities of the European Central Bank.  Frankfurt:  The European Central Bank, 2007.  Print.

“IMF Members' Quotas and Voting Power, and IMF Board of Governors.”  IMF. International Monetary Fund 2 June 2012.  Web.  3 June 2013.

Levring, Peter.  “Denmark Shelves Euro Goal Indefinitely as Crisis Scars Last.”  Bloomberg.  17 May 2013.  Web.  21 May 2013.

Orphanides, Athanasios. “What Happened in Cyprus.”  Interview with Athanasios Orphanides.  The Economist.  28 March 2013.  Web.  22 April 2013.

Protocol to the Treaty on European Union and to the Treaty on the Functioning of the European Union – Statute of the European System of Central Banks and European Central Bank [2008] OJ C115

Scheller, Hanspeter K.  The European Central Bank: History, Role and Functions. Frankfurt:  The European Central Bank, 2004.  Print. 

Soros, George.  “Germany Must Accept Eurobonds or Leave Euro.”  Der Spiegel.  10 April 2013.  Web.  30 May 2013.