1. How might a member state exit the Eurozone?
There are a number of possible scenarios that might be envisaged as to how a member state might exit the Eurozone. Of course these are largely political rather than legal questions and we express no views on the likelihood of any of these events.
The first possible scenario is a lawful exit by a member state in accordance with the Treaty on the Functioning of the European Union (TFEU), which sets out, inter alia, the legal framework for economic and monetary union. However, the TFEU1 does not provide a clear mechanism for a member state to exit from the Eurozone. The only clear exit mechanism is article 50 of the Treaty on European Union2 (TEU), which permits a member state to withdraw from the European Union (EU) as a whole and which by logical consequence, would require a withdrawal from the Eurozone at such time. A member state which wishes to exit the Eurozone but remain a part of the EU would appear to have to exit the EU under article 50 and then apply for readmission3, subject to ratification by other member states, to rejoin the EU.4 Given this would constitute a consensual exit, it is likely there would be legislation (both at EC and national level) to deal with the legal uncertainty created by a member state leaving the Eurozone.
A second possible scenario for a lawful exit is for member states to agree to amend the TFEU to allow for a lawful exit by a member state from the Eurozone without requiring a withdrawal from the EU as a whole. Again, given this would constitute a consensual exit, it is likely there would be legislation to deal with the legal uncertainty (both at EC and national level) created by a member state leaving the Eurozone.
A third possible scenario is a unilateral and therefore non consensual withdrawal by a member state from the Eurozone. This is the scenario which is most likely to create significant legal uncertainty because there is less likely to be time to implement EC legislation dealing with the legal uncertainty that would inevitably be created by such a unilateral exit.
For further commentary and analysis see Financial Times article and related briefings: " Euro exit as legal quagmire".
2. What legislation is likely to be passed to facilitate the exit of a member state from the Eurozone
The exact nature of the legislation passed will of course depend on how a member state exits the Eurozone. Where there is a consensual exit, it is likely there will be legislation at both an EU level as well as the national level of the departing member state to manage any exit of that departing member state. Even if there is a unilateral exit, there will at least need to be domestic legislation in the departing member state.
The sort of areas such legislation may cover include:
- the creation of a new currency in place of the Euro for the exiting member state;
- foreign exchange controls such as:
- how the Euro may continue to be used (or not) within the exiting member state;
- restricting the amount of currency that may be imported or exported from the exiting member state;
- defining the circumstances in which persons based in the exiting member state can own and pay or be paid in Euro;
- restricting currency exchange between the Euro (and other currencies) and the new currency of the exiting member state to government-approved exchangers; and
- fixing the exchange rates between the Euro and the new currency of the exiting member state;
- whether the exit from the Euro of the exiting member state shall be grounds to alter, discharge or excuse performance of affected contacts and, if so, how.
3. What is the lex monetae principle?
Lex monetae5 is a legal principle recognised by most developed jurisdictions to the effect that the currency of a debt expressed in a foreign currency is determined by the law of the country in whose currency the obligation is expressed. Where it applies, this principle applies irrespective of the law governing the contract in question. In practice this means that if a German borrower takes out a US dollar loan facility which is governed by English law, only US law can determine what a "US dollar" is for the purpose of payment obligations by the German borrower under such loan facility.
4. What is the problem with applying the lex monetae principle to euro denominated contracts?
As a matter of EC law, the Euro is the legal currency of the participating member states of the Eurozone and replaced their national currency upon joining the Eurozone. The problem is that if a member states exits the Eurozone and adopts a new currency, the euro will continue to exist as a currency leaving two possible outcomes for euro denominated contracts connected with that departing member state: namely either
- payment obligations continue to be payable in euro (the lex monetae of the remaining Eurozone member states); or
- payment obligations are redenominated into a new currency (the lex monetae of the departing member state).
A number of factors may determine which of the two currencies applies.
5. What factors may determine whether payment obligations are in euros or in the new currency of a departing member state?
Intention of the parties
The intention of the parties as to nominated currency may be a factor taken into consideration by the relevant Court with jurisdiction. Until recent concerns over the Eurozone, it is highly unlikely that parties gave any thought to the possibility of euro denominated contracts being redenominated and so this is unlikely to be a relevant factor in most cases. The intention of the parties may be a more relevant factor in relation to new transactions to the extent that parties are looking to draft in protections to make a choice of currency explicit.
6. Debtor is a sovereign entity
There is a rebuttable presumption that a government contracts in its own currency so for example a bond issued by the government of a departing member state would be presumed to be payable in that state's redenominated currency. This presumption may well be easier to rebut in say an international Eurobond issue than a purely domestic bond issuance to domestic investors.
7. Place of payment
There is rebuttable presumption that the parties intend the place of payment to be the lex monetae of the contract so if a contract states that the place of payment is in a departing member state, that contract is presumed to be payable in the redenominated currency of the departing member state.6
8. Why might the definition of currency also be relevant to determining the currency of payment obligations?
The definition of euro in the contract may be relevant depending on whether the definition refers to the euro as the lawful currency of the Eurozone and not the lawful currency of a member state. If the currency definition refers to the lawful currency of a member state from time to time, there is more risk of a departing member state unilaterally changing any euro currency obligations to a redenominated local currency.
9. Why might governing law be relevant to determining the currency of payment obligations?
If the governing law of a contract is that of the departing member state it is more likely to be at risk of being redenominated into the currency of the departing member state. This is either because:
- the departing member state also has jurisdiction to hear any disputes7 and therefore applies its own laws (including redenomination laws); and
- even if the courts of a non departing member state hear the dispute, that court may be bound to recognises the choice of law of the parties and, with it, that departing state's redenomination legislation.
10. Why might jurisdiction be relevant to determining the currency payment obligations?
If there are two different courts which have to decide the issue, they may reach different (and contradictory) conclusions - in which case, it then becomes a practical question as to which one is likely to be most effective in the circumstances.
A court of a departing member state is almost certain to decide that in relation to a disputed contract, a euro obligation is payable in its new national currency. This is because the member state's legislation will say so.
In the absence of a sufficient connection or nexus with the departing member state (such as a place of payment or governing law clause) an external court may decide otherwise. An English court in the absence of a sufficient connection with the departing member state is more likely to decide that the obligation is to continue to pay euro. This is because an obligation to pay euro will continue to be an obligation to pay euro unless the euro has ceased to exist or it is reasonably clear from the documentation that the reference to euro was really intended to mean the currency of the affected member state from time to time.
11. Which contracts are at risk of being redenominated in the event of a member state departure?
Risk of redenomination should only be an issue in practice in relation to euro payment obligations under contracts with a sufficient connection or nexus to the departing member state. For example, contracts governed by the laws of the departing member state, where the debtor is resident in the departing member state or where the place of payment is in the departing member state.
12. What drafting tips should I consider for new transactions?
In the case of new transactions, the extent to which we can draft round these issues will depend on the circumstances. There are some simple drafting protections that the parties should consider depending on the facts of the transactions. These may not be conclusive for all purposes, but they will certainly help.
Firstly, if you want the payer to continue to have to pay euro, you should ensure that there is a definition of "euro" which makes that clear that the governing law is a law other than that of a member of the Eurozone. Secondly, the jurisdiction clause should favour courts of a jurisdiction other than a member of the Eurozone. Finally, payment should also be made outside the Eurozone.
However there is not a "one hat fits all" drafting approach around the current issues. It is also important to remember that certain contractual provisions agreed by the parties may be overridden by legislation implemented at the time of any exit by a member state. We would encourage all our clients to talk to us about what they want to achieve in particular types of transaction, so that we can advise accordingly.
1 As amended by the Lisbon Treaty.
2 As amended by the Lisbon Treaty.
3 See article 50(5) and article 49, TEU.
4 The time this is likely to take is unlikely to make this a viable option.
5The law of the place of the currency.
6The euro - fragmentation and the financial markets, Capital Markets Law Journal 2011 Vol 6, No.1(Charles Proctor)
7Note that it is common to match the governing law of the contract clause with the courts of the state whose laws are being chosen for reasons of convenience and certainty.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.