The Euro is trading near the top of a narrow range. However, messy Eurozone politics characterised by nationalist currents are taking the shine off the region’s economic faster recovery and could ultimately act as a headwind to growth and Euro appreciation.
In Spain, Catalonia’s independence vote on 1st October has cast a shadow on Spain’s undoubted economic turnaround. In Austria, the far-right Freedom Party will likely join a ruling coalition following national elections on 15th October, re-igniting concerns about European nationalism’s ascendancy.
German Chancellor Angela Merkel’s talks with its potential coalition partner, the Free Democratic Party (FDP), have collapsed with the ruling CDU-CSU and FDP unable to agree on the formation of a majority government which would also include the Green Party.
Chancellor Merkel, who is trying to secure a fourth consecutive term, now has four options:
- Return to the negotiation table in the hope of forming a majority, tripartite coalition between her centre-right CDU-CSU, the liberal FDP and Greens;
- Form a majority coalition with the centre-left Social Democratic Party – a repeat of the 2005-2009 and 2013-2017 governments – despite the SPD’s wish to be in opposition;
- Form a minority coalition government with the Greens, for which there is no precedent at a national level; or
- Push for a new set of Bundestag (legislative) elections.
Merkel said she would prefer new legislative elections over a minority government, a possible ploy to force the FDP back to the negotiating table which could backfire.
A recent opinion poll suggests that in the event of new elections, which could take months to secure, the CDU-CSU, SPD and Left Party would all lose seats while the Greens, FDP and far-right Alternative for Germany (AfD) would gain seats.
New elections could thus further sap Merkel’s credibility and make it even harder for the CDU-CSU to form a majority coalition on its own terms. If coalition talks once again failed, Merkel would be back to square one and would conceivably be under pressure to resign – a scenario which I flagged two years ago and now seems plausible even if still unlikely.
Option (2) may thus be the least unappealing for the normally pragmatic Chancellor, while the SPD and Schulz may have more to lose from new elections than the FDP and Greens.
If Option (2) remains off the table, the CDU-CSU and SPD could opt for a “confidence-and-supply” agreement, a hybrid of Options (2) and (3) providing some policy continuity. The SPD’s annual conference in the second week of December is one for the diary.