Notes From Underground

I will start tonight’s BLOG with two very good comments from a long time reader and contributor GREEN AB who hails from Germany. Green has always provided great insight and though we don’t always agree I have great respect for his perspective. On Thursday he posted a very prescient forecast about today’s election and Sunday he followed with a post-election thoughts.

From September 22:

Allow me some final thoughts from Germany before the election.

Talking about complacency … Is anybody bothered by the German election? No?

Well, here´s something to think about. The latest polls indicate another grand coalition of CDU+SPD. So nothing to worry about, everything stays the same? Maybe not. The SPD is tired of being Merkel’s junior partner. They are looking for their worst results in history. The party´s leadership made clear that the members will have the final say if the SPD will enter another coalition. And boy, listening to members it doesn´t look good.

So there´s a real chance that Merkel will have to look for other options. There are two of them. Either the FDP gains another 2-3% and CDU+FDP get a majority. Or – and that´s more likely – for the first time we´ll see a “Jamaica” coalition. CDU + FDP + Green Party.

Whatever the outcome – the FDP would be one of the partners. The Liberals are pro business, less taxes, less regulation… So why could there be risk? Well, EUROPE will be one of issues that doesn´t go away. There have to be reforms, if the European Union doesn´t want to fall apart. Macron has given the direction (more integration) and Merkel is willing to go along to a certain extent.

Enter the FDP. Sure, they are pro Europe. But they are also very nationalist, when it comes to money. No transfers, no Eurobonds, no European Treasury Secretary and NO banking union! They have been very critical of Merkel´s handling of Greece. In fact, they wanted Greece out of the Euro.

After being kicked out of the Bundestag after their last coalition with Merkel (2009-2013) they already made clear, that they will be a tough negotiating partner. And: they want the Ministry of Finance, which is currently held by Schäuble.

All of that could bring uncertainty into the market. So maybe it isn´t a shock of a Trump election or Brexit, but a boring German election that causes volatility to rise.

Now Sunday:

So as expected, the Grand Coalition of CDU+SPD is finished. The SPD leadership didn´t even bother to ask the party members. Right after the first polls came in they declared to exit.

This leaves Germany with a coalition of CDU + FDP + Green Party as the only option. The scenario has been discussed over the last weeks. And there are a few examples of these parties governing together in states. But this will be Merkel’s toughest task yet.

Let me give you some examples. First of all – the CDU had their worst results since 1949. Their sister party CSU has elections coming up in Bavaria next year. So the first thing the chairman of the party (Seehofer) said tonight is that they have to “cover the right flank,” which means they´re going to be tougher on refugees/migration. In fact, they´ve lobbied for an upper limit for two years now. But that’s not possible unless you change the constitution. And Merkel opposes it too. Enter the Green party – they are much more refugee friendly. So the first issue will be to get CSU and Greens together.

Second – Green Party and FDP are on opposite ends on several issues, like Energy policy, Taxes and Social Security. And: the Green party has a strong left base. They will have to give their OK too.

Last but not least – as i mentioned, the FDP will be tough to negotiate with. They were Merkel´s junior partner from 2009-2013 and they went under (out of the parliament). The re-energize FDP will make sure to realize more of their agenda. In the first big talk show this evening their boss Christian Lindner stated that a separate budget for a European Treasury Secretary is a “red line”. “No Germany money for French consumers or the leftovers from Berlusconi.”

So forming a stable government will be a difficult task.

And then there´s the AfD. I cannot state how embarrassed I am as a German with their huge results. It´s not that i couldn´t live with a right-wing populist party. But these people are dangerous and i hope this isn´t a start for more…

So, that´s for now. I´ll keep you updated on the progress of negotiations.

Let´s see how the markets handle this.

The markets are going to be shaken by the outcome of the German elections as all the established parties lost ground to second-tier political groups. The BIGGEST winners were the FDP (Free-Democrats) and the right-wing fringe group, the AfD (Party for Deutschland), which people will interpret as an anti-immigrant vote. The AfD begin its origin as an euro-phobic group led by right-wing academic economists. The party has built its base by appealing to the xenophobic leanings of those Germans angered by Chancellor Merkel’s mass acceptance of refugees from the Middle East. It will be important to see if the AfD tracks back to its anti-euro sentiment in an effort to find some common ground with the Free Democrats.

If the Social-Democrats fail to rejoin a coalition with Merkel then the FDP are going to be in the government and they are openly opposed to the suggestions being made by French President Emmanuel Macron on deepening fiscal harmonization ties. In a June Politico piece, FDP party leader Christian Lindner said “his party’s red line on European policy was a refusal to accept a common budget for the eurozone funded by taxes that currently go into national budgets, as mooted by Macron.”

The election results appear to be a drag on President Macron’s efforts to rush Merkel into a common banking and fiscal authority, guaranteed, of course, by the German voters. The results should result in a great increase in volatility:

1. European debt should see the BUND futures outperform all other European sovereigns as the ECB will be under pressure to support Italian, Spanish and maybe even French bonds in the initial trades tonight. The ECB will PROBABLY have 15 billion of assets to buy as we enter the last week of the month. I will CONJECTURE that this result will keep Mario Draghi from pursuing a QT ease at the ECB‘s October meeting;

2. The EURO will suffer as the political uncertainty will put downside pressure on European assets but I will WANT to buy German stocks on any major setback as the weaker euro combined with an aggressive TAX CUT favored by the FDP will result in a positive for German equities. The DAX‘s early-September weakness held the 200-day moving average so a downside move based on the political uncertainty can test the present moving average, which is around 12,162;

3. The EURO/YEN cross has been on a tear lately as the EURO is testing two-year highs against the YEN. Political uncertainty SHOULD result in some covering of this long-held momentum trade, which should make many policy makers in Europe happy because of the cross’ significance for European trade;

4. The GOLD OUGHT to outperform against all of the major currencies as political uncertainty in the time of NEGATIVE REAL and NOMINAL INTEREST rates makes it difficult to counter any sort of increased volatility in global asset classes.

In my opinion, Chancellor Merkel’s failure to address some of the economic concerns of the Bavarian Burghers caused her to lose some of her support. The more Macron discussed fiscal harmonization and the need for a common banking system, the more Merkel needed to address these issues. Merkel’s desire to sit on her lead instead of confronting the issues raised by Macron to the German electorate seems to have taken a toll. As we discussed last week Macron did some damage to Merkel and now Mario Draghi has been weakened by the present position of his chief benefactor. When will we hear from Bundesbank President Jens Weidmann? Complacency has certainly been shattered.

Tags: AfD, Angela Merkel, Bund, CDU, DAX, ECB, Euro, Euro/Yen, FDP, German elections, Green Party, Jens Weidmann, Mario Draghi

This entry was posted on September 24, 2017 at 4:09 pm and is filed under ECB, Germany. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.