The German election, a “Jamaican” government and the European Union: possible developments of fiscal policies and the Eurozone

September 26, 2017
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Angela Merkel comes out a winner after the September 24 political election in Germany, and will be Chancellor for the fourth consecutive term. Her party however, the Christian Democratic Union (CDU), is affected by one of the worst results in sixty years. The Social Democratic Party (SPD), led by former President of the European Parliament Martin Schulz, fared even worse: a few dozen seats less and the next few years likely to be spent as the opposition in an attempt to rebuild their approval ratings. On the other hand, the extreme right-wing Alternative for Germany (AfD) has had a remarkable success, becoming the third party by number of seats, although it will remain out of any possible government coalition.

Many analysts believe that the result of the elections will make it difficult for Mrs. Merkel to build a stable government alliance and that this will influence the political choices of the coming years. What kind of coalition can Angela Merkel work with? And what type of effects will the new German political scenario have on the rest of the European Union? A policy brief from the LUISS School of European Political Economy, written shortly before the election by Annette Bongardt (London School of Economics), Lorenzo Codogno (LUISS School of European Political Economy) and Francisco Torres (London School of Economics) outlines some possible developments, including what has appeared to be taking shape in the last few hours (although a definitive negotiation will take much longer): an alliance between the CDU, the Christian-Social Union of Bavaria (CSU, CDU’s sister party, in spite of their difficult relationship in recent years), the Free Democratic Party (FDP) and the Green Party, in a coalition called “Jamaican” because of the colors of the parties involved (black for the CDU/CSU, yellow for the FDP and the Green Party itself): the same ones as the Jamaican flag

What is going to change for Europe on austerity

It is unlikely that Germany will experience a “prodigal” turn, that is a more expansionary fiscal policy, wished by many for its beneficial effects on the rest of Europe. As highlighted by the authors of the research, «The national debt-brake rule enjoys a close-to-80% support rate among voters, and as a result, European rules are also held in high regard to the point that no future German government would dare to propose any change. At the national level, it would take a two thirds majority in Parliament to change the fiscal rules, which is a close-to-impossible outcome».

With a “Jamaica coalition” – the authors remark – it would be tricky for Merkel to combine «the somewhat Eurosceptic views of the FDP with the strongly pro-European stance of the Greens. On many other issues (namely on migration, energy and climate policies), the FDP would tend to team up with the CSU and part of the CDU against Merkel and the Greens».

The likely and definitive farewell to Eurobonds

How could the new government relaunch the European project? The answer to such question is evidently open, but Bongardt, Codogno and Torres identify a few limits: «Germany has opposed any mutualisation of fiscal policies or fiscal transfers, let alone any Eurobonds or mutualisation of government liabilities and any step towards completing the banking union with a European deposit insurance. There has been strong opposition towards any European unemployment insurance as well. Finally, there has been increasing criticism of European institutions. Is all this going to change»? The election last May of Emmanuel Macron has been hailed as a positive sign for the future of the EU, although with some cautiousness, due to the need to add substantial reforms to his slogans. Bongardt, Codogno and Torres highlight that, although Merkel and Schäuble have shown a certain support of Macron’s ideas, e.g. with possible openings to the strengthening of the European Stability Mechanism, it will be much harder to convince the FDP to follow in this direction: «The FDP is not keen to speed up integration either […].Therefore, any plan to go towards a strengthening of the ESM and its transformation into an EMF may find some opposition in the FDP and probably in part of the CDU/CSU as well. In the past, Germany was in favour of a semi-automatic mechanism for sovereign debt restructuring in the Eurozone, […], and it is unclear whether this would be part of the ticket that makes the proposal more palatable for some sceptic voices».

Schäuble’s agenda on the Euro reform

To understand how other aspects of the governance of the single currency may change, there is a political matter that needs to consider, the role of Schäuble, the CDU Minister of Finance, on which all the parties in the coalition might be able to agree: «In the case of a Jamaica coalition» the authors argue «there would still be a significant chance that Wolfgang Schäuble gets the job again and thus informs policies towards Europe». Schäuble, however, seems to be directed at the downgrading of European institutions in favor of an intergovernmental approach. This would result in the transformation of the European Stability Mechanism into a European Monetary Fund overseeing the fiscal policies of the Member States and also playing a role in the restructuring of public debts, with the aim (in Schäuble’s intentions) of having rules that are much more clear and setting up an unbiased third party, were the Commission to attempt to exercise a much too strong ‘political’ function. However, for this move to be achieved, a compensation would have to be offered to France, such as the creation of a European finance minister, or a reform within the Eurogroup.

The “last mandate” factor

Anyway, the authors of the LUISS School of European Political Economy policy brief leave the door open: «Both Merkel and Schäuble will want to leave their mark on the European integration process and therefore might use their last mandate not only to safeguard Germany’s national (and short term) interests but finally to advance it, with much less electoral pressure, in the common and German long term interest». In the period between the formation of the German government and the next European Parliament Elections in 2019, we will likely see a great debate taking place and (perhaps) a profound transformation for the European Union.