Summary
Germany's CDU/CSU have won the elections and will now form a coalition government. Challenges include how to kickstart growth and adapt fiscal policy.
Key points
- The centre-right Christian Democratic Union/Christian Social Union won the German elections held on February 23 with 28.6% of the votes, putting CDU leader Friedrich Merz on track to be the next Chancellor. His first job will be to form a coalition government.
- Negotiations with the Social Democrats, which came third with 16.4% of the vote, will focus on bridging differences on issues such as fiscal reform and domestic policies. A change in the fiscal stance is likely, with more spending on defence, but may not result in a major stimulus.
- Any reform of Germany’s debt brake or the creation of a special fund will take time given the existence of a blocking minority and is therefore unlikely to affect growth before 2026.
- Merz is currently discussing with the SPD the possibility of approving up to €200 bn of special defence spending before 24 March. Given the blocking minority, it would be technically possible to pass such a measure with the outgoing chamber, i.e. before the start of the new legislature (24 March). Summoning Parliament for an emergency session under such conditions has not happened since 1998, when Germany had to make decisions concerning the war in Yugoslavia.
- Given more debt issuance is likely, German bond yields may have to rise further if they are to become more attractive. The blue-chip DAX appears reasonably valued despite its strong performance over the past year and could benefit if key reforms are implemented.
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