Berlin, Germany. Image source: Pawel, flickr.com
The German federal election, held yesterday, concluded without any major surprises, closely aligning with preliminary polls and market expectations. The results indicate that Germany is heading towards a new coalition government, which could significantly shape the future of the country’s political and economic landscape. In the aftermath, European markets, including the German DAX, are showing positive signs, with investors expressing relief as certain potential political risks seem to have been averted. As we look ahead, we explore the key outcomes of the election, the potential coalition formations, and what lies ahead for European markets.
Election Results and Coalition Scenarios
The Christian Democratic Union of Germany (CDU), along with its Bavarian sister party the Christian Social Union (CSU), emerged as the largest political group in the election. The center-right alliance, led by Friedrich Merz, secured enough votes to position itself as the main contender for forming the next government. Although the CDU/CSU did not achieve an outright majority, their strong showing puts them in a prime position to lead coalition negotiations.
The Social Democratic Party of Germany (SPD), which previously led the government, came in third, losing some of its earlier momentum. However, its political influence remains significant, as the SPD is expected to be a crucial partner in any future coalition. The second-place Green Party also fared well, emphasizing its growing role in German politics, particularly with its focus on environmental and sustainability policies.
The most likely outcome, based on current political dynamics, is the formation of a "Kenya coalition" – a power-sharing agreement between the CDU/CSU (black), SPD (red), and the Greens (green). This type of coalition has been seen as a favorable outcome for both political stability and market predictability. The Kenya coalition would bring together a blend of center-right economic policies, progressive social policies, and a strong focus on environmental reforms.
Another possible scenario is a simpler CDU/CSU-SPD coalition, similar to previous governments. In either case, both scenarios exclude the far-right Alternative for Germany (AfD) party from holding a governing role, which has been a key concern for both domestic and international investors.
Market Reaction: Calm After the Storm
One of the most notable outcomes of the election is the exclusion of the far-right AfD from any governing coalition. The AfD’s rise in recent years had caused significant concern among investors, especially given the party’s eurosceptic and populist policies. With the AfD remaining out of the ruling government, markets responded positively.
The German DAX, the country’s leading stock market index, opened higher following the election results, trading above Friday’s closing levels. This positive reaction reflects the relief among investors who had feared potential political instability or radical shifts in economic policy. European stocks in general have also shown a stabilizing trend, with major indices across the continent echoing the DAX’s performance.
Investors appear confident that a CDU/CSU-led government, with the support of the SPD and/or the Greens, will maintain Germany’s commitment to European Union cohesion, financial discipline, and the energy transition. The Greens’ involvement in the coalition is seen as a signal of continuity in Germany's push towards renewable energy and sustainability, which is key for sectors such as energy, manufacturing, and automotive industries.
What’s Next for European Markets?
While the election results bring a degree of political clarity, the formation of a coalition government may take several weeks or even months. During this period, markets will likely remain sensitive to any updates from coalition negotiations, particularly on key policy issues such as taxation, fiscal spending, and environmental regulations.
One of the key market drivers in the coming months will be Germany’s approach to fiscal stimulus and economic recovery. As Europe’s largest economy, Germany plays a pivotal role in steering the broader EU economic agenda. A CDU/CSU-led coalition, especially with the SPD and Greens, is expected to continue policies that prioritize fiscal responsibility while addressing the country’s long-term energy transition. This may lead to increased public investments in infrastructure, digitalization, and green energy – sectors that could benefit significantly from this coalition.
In the wider context, European markets will also keep an eye on how the new German government interacts with the European Central Bank (ECB) on monetary policy and inflationary pressures. The ECB has been navigating an uncertain post-pandemic recovery, with inflation rising across the Eurozone. Germany’s next government will likely influence decisions around fiscal policies, particularly concerning EU-wide recovery funds and debt sustainability.
Conclusion
The results of the German federal election have largely met market expectations, providing a sense of political stability in a time of economic uncertainty. The likely formation of a Kenya coalition, excluding the far-right AfD, has reassured investors and helped to calm market fears of radical shifts in policy. As the coalition-building process unfolds, European markets are poised to benefit from a stable German government that will likely prioritize economic recovery, climate action, and EU cohesion.
For now, investors can breathe a sigh of relief, with markets reflecting optimism that Germany’s new leadership will continue its role as a cornerstone of European stability. However, attention will remain on key policy decisions that could impact fiscal and regulatory frameworks across Europe in the months to come.
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