What is the way ahead for the (likely) new Chancellor Friedrich Merz, and possible implications for the country’s economy and wider markets following the German Federal elections on 23 February, says the Amundi Investment Institute in a summary of its briefing note.
Coalition negotiation timelines are ranging from 2-6 months, favouring the shorter end. A variety of coalitions are possible, with a new government expected to be in place by April/May.
The German economy is the weakest economy in the eurozone, explained by tightening financial conditions, rising energy prices and weakening foreign demand (particularly from China).
Structural problems pre-date these issues with a huge backlog of investment and ageing infrastructure. Meanwhile, a shortage of skilled labour, an ageing population, and low productivity mean that potential growth is under pressure.
Whichever parties make up the coalition, 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.
Implications for markets and investors
We expect the next coalition government will mobilise fiscal policy more proactively and that this will contribute significantly to German growth next year. However, the coalition contract negotiations will need to be monitored very closely in the coming weeks to confirm this view.
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.
