UPDATE 1-ECB's Lagarde cheers Franco-German EU recovery fund plan

(Adds Lagard quotes, details, context)

PARIS/FRANKFURT, May 18 (Reuters) – A Franco-German proposal for a 500 billion euro ($546 billion) coronavirus recovery fund would bring essential relief to the bloc’s worst-hit nations and demonstrate solidarity, European Central Bank President Christine Lagarde said on Monday.

Closing in on a deal after two months of often bitter talks, the European Union’s biggest powers proposed a fund on Monday that would offer non-repayable grants to EU regions and sectors hit hardest by the pandemic, with the cash borrowed by the bloc as a whole rather than by individual member states.

Although the plan still requires the consent of all EU members, it would be a big step towards debt mutualisation, once a taboo for German governments fearing that their taxpayers might be liable for the fiscal irresponsibility of others.

“The Franco-German proposals are ambitious, targeted and, of course, welcome,” Lagarde said in a joint interview with four European newspapers, after announcement of the plan sent the euro higher and reduced Italian bond yields.

“They pave the way for the European Commission to borrow funds over the long term and, above all, they allow a substantial amount of direct support to be provided to the countries most affected by the crisis,” Lagarde told newspapers Les Echos, Handelsblatt, Corriere della Sera and El Mundo.

Buying 1.1 trillion euros of debt this year, the ECB would be expected to buy any bonds jointly issued by EU members, keeping borrowing costs down and increasing the pool of coveted safe assets.

The euro zone economy is expected to shrink by a tenth this year, and even with many coronavirus restrictions already lifted, the recovery is expected to last well beyond this year.

Reflecting on a recent German Constitutional Court ruling that the ECB exceeded its powers with sovereign bond buys, Lagarde said the German central bank is under obligation to carry out the ECB’s decision.

“According to the Treaty, all national central banks should fully participate in the determination and implementation of monetary policy in the euro area,” she said.

Her comments may foreshadow a legal clash as the German court said the Bundesbank must quit the asset buys unless the ECB can prove they are necessary.

If the ECB fails that test, the Bundesbank is likely to face a conflict between its EU Treaty obligation and a ruling by the nation’s highest court. (Reporting by Laurence Frost, Leigh Thomas and Balazs Koranyi; Editing by Sandra Maler and Dan Grebler)

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