What German elections mean for the euro
The market reaction was tentatively euro negative, but the likely ruling coalition is euro positive
On the surface, the election outcome seems euro negative, and that is how the market traded on the opening–although without great conviction. For reasons I will explain below, the elimination of the SPD from the government is euro positive at a slightly longer horizon (weeks rather than days).
We are down about 0.3 cents. It is a very poor result for the major parties. The SPD has imploded, with the worst results in its history, and the CDU’s 33% is also a poor result by historical standards. Roughly a tenth of the vote went to each of the small parties, with the populist-right AfD garnering 13% of the vote.
Nonetheless, neither the AfD on the right nor the Linke (Left) can do much except make noise, and Merkel will negotiate a “Jamaica” (Black-Green-Yellow, or CDU/Green/FDP) coalition. That may take a while as the smaller parties press their advantage, but there is only one possible policy outcome, namely a shift towards monetary stringency and fiscal stimulus.
The most important micro-result of the election was captured in a Die Welt headline: “Older women saved Merkel’s fourth chancellorship.” The CDU/CSU got more than 40% of the votes of Germans over 60 compared to barely 22% of Germans aged 18 to 29, Older German women, that is, pensioners living alone, were the decisive vote for Merkel, and it is on this social strata that her political future depends. And their central concern is pensions: Not growth, not diesel emissions, not refugees, not tax cuts, but the fact that the interest rate on their savings is now negative. And that is what Merkel will have to remedy. That is why the result is euro positive.
The SPD is the lever inside the German government that Macron and the Italians use to pry loose German largesse, and its replacement at the foreign ministry by the pro-business Free Democrats (which seems most likely) is a blow to the Club Med countries. The Greens will extract concessions from Merkel in return for participating in the “Jamaica” coalition; I cannot imagine that the result is salubrious for auto stocks, given the Greens’ obsession with diesel emissions. But the Greens have no strong views on monetary policy, and if they get what they want in their primary area of concern, they will not stand in the way of a de facto CDU/FDP governing coalition on foreign as well as economic policy.