The coalition poker game can begin

Germany has voted – with a tight election outcome, as expected. From a mathematical standpoint, at least two (but probably three) parties now must get together to form a government. What lies ahead in political Germany in the coming weeks, and what would the different potential governing coalitions mean for the country?

 

The Union registers heavy losses as expected, but polarization recedes

The long wait is over. The preliminary results of Germany’s Bundestag elections are in. The SPD can lay claim to being the election victor having won 25.7% of the votes, followed by the CDU/CSU (24.1%) and the Green Party (14.8%) in second and third place, with the FDP (11.5%), the AfD (10.3%) and the Left Party (4.9%) trailing farther behind. Although the CDU/CSU registered the biggest losses, many voters also defected from the far-right (AfD) and far-left (Left Party) poles. Fears about a “red-red-green” government and an attendant dreaded dismantling of “growth engine Germany” appear to be allayed for the moment because such a coalition isn’t mathematically capable of forming a government.

 

The elections are over – now comes the coalition negotiations

Since the outcome was close compared to previous elections in Germany, it raises the possibility and necessity of various (three-party) coalitions joining forces to form a new government. Lengthy coalition negotiations and a heaping helping of uncertainty can therefore be expected in the weeks ahead. After the elections four years ago on September 24, 2017, it took almost half a year until a “black-red” coalition finally reached a deal. Hopefully voters will be spared from having to wait that long this time, and the same goes for Angela Merkel, who otherwise would have to stay in office for longer. On election eve, Armin Laschet and Olaf Scholz touted that they would wrap up their respective coalition negotiations before Christmas. But since they both consider themselves duty bound to form a government, the coalition negotiations once again won’t proceed hassle-free this time. Below we examine the likeliest governing coalitions and their implications in a nutshell.

 

A narrow affair

The era of (two) dominant political parties is definitively over

Results of 2021 and 2017 Bundestag elections

Sources: Der Bundeswahlleiter, Kaiser Partner Privatbank

 

A “traffic light” coalition (SPD, Greens, FDP)

A “traffic light” coalition would combine the most votes and would clearly signalize an embarkment into the post-Merkel era. But an abrupt change in direction in German politics is hardly to be expected, nor would one be under a “Jamaica” coalition. At most there might be a lane change on the current path. In this sense, a “traffic light” coalition would continue to be fervently pro-European with regard to institutional procedures and Germany’s willingness to bear more than its share of costs for furthering European Union integration and cohesion. On the foreign policy front, a “traffic light” coalition would be the one most likely to take a tougher stance toward China and Russia. The SPD and the Green Party stand very close to each other on environmental issues and would likely want to push through their green agenda. The FDP would probably support this to a large extent, but would act as a corrective to prevent the “greening” of Germany from overburdening the economy. In addition, to follow through on its election campaign platform, the liberal FDP is likely to ardently oppose (significant) tax hikes and an excessive easing of fiscal rules even if it may be unable to completely forestall that. A “traffic light” coalition would definitely be “acceptable” to the business community (and the financial markets). Certain burdens like a foreseeable raising of the mandatory minimum wage would probably be gladly tolerated in exchange for maintaining a policy climate with a pro-business bias.

 

A “Jamaica” coalition (CDU/CSU, Greens, FDP)

A “Jamaica” coalition would clearly be the friendliest one toward business interests, at least on paper. Higher taxes, let alone a wealth tax, are hardly to be expected in this scenario. On the contrary, the pragmatic wing of the Green Party might actually express openness to certain tax simplifications. What’s certain, though, is that a “Jamaica” government would also radiate a green hue, but it would likely focus on basing the transition to a CO2-neutral future primarily on market-based mechanisms as much as possible. Meanwhile, those who like to zoom around in cars can realistically hope that the likelihood of a general speed limit being imposed on German highways by a “Jamaica” coalition is lower than under other potential coalitions. But it’s at least questionable, in contrast, whether a “Jamaica” coalition would succeed in quickly balancing Germany’s federal budget (getting it back to a “black zero”) as the CDU/CSU and FDP have in mind, not just because the green transformation will be cost-intensive, but also because the Green Party will not content itself with being a junior partner in the coalition. So, there are bound to be costly compromises on social policies even in a “Jamaica” scenario.

A “Jamaica” coalition would clearly be the friendliest one toward business interests, at least on paper.

A “grand” or “Germany” coalition (CDU/CSU and SPD, possibly with the FDP included)

A reprise of the “grand coalition” is unlikely to be preferred by voters nor desired by the CDU/CSU and SPD, Germany’s erstwhile dominant parties, but electoral math nonetheless makes it a possibility. There’s a small probability that it could result in the formation of a “Germany” (black-red-yellow) government that would include the FDP. But it’s doubtful whether that would bring a wind of change to everyday governing in Berlin. In both variations, with or without the FDP, one could most likely count on seeing more of the same. But if Germany continues to stick to the status quo as it already has in recent years, it risks further eroding the foundation of the country’s economic success over the last 16 years. That’s why extensive personnel and policy agenda changes would be needed to field a team capable of governing for at least four years. Although a “grand coalition” is considered unlikely at this time based on recent statements by various party officials, it is not mathematically impossible and could regain realistic significance depending on how the coalition negotiations go.

 

A colorful autumn of negotiations ahead

Contrary to what some people feared, the “red-green-red” party alliance that has been governing the city of Berlin for the last five years will not be superimposed on the rest of the Federal Republic of Germany. This is bound to prompt a mild sigh of relief on the financial markets, but is unlikely to render the upcoming coalition negotiations any less suspenseful. Although financial market participants favor a “Jamaica” coalition based on their party membership, their preference also ultimately depends on what concessions the CDU/CSU will make to the Greens or the SPD will make to the FDP in coalition talks. It cannot be entirely ruled out, for example, that Olaf Scholz in the end might make so many concessions to the FDP that the compromises may look more convincing altogether from a liberal view than what Armin Laschet is capable of wringing from the Green Party. So from a political point of view, a suspenseful autumn of negotiations is shaping up that needs to be watched closely and critically also from an investor’s perspective.

 

Oliver Hackel, CFA Senior Investment Strategist

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