ANALYST: Merkel Is Losing Ground, And We're Getting 'Ominous Long-Term Vibes' Out Of Germany

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Germany's September national elections are rapidly approaching, and there are signs that it could start to get interesting.

Alternative für Deutschland  (AfD) – a new political party running on a platform advocating dissolution of the euro – is already making impressive gains in the polls, and German Chancellor Angela Merkel's incumbent government is losing support.

In a new poll released today, support for Merkel's center-right coalition fell to 42%, meaning they are without a majority heading into September. Another poll showed their support slipping to 37% from 40%.

Meanwhile, the German economy may be coming into a bout of weakness, as the latest manufacturing data suggest (the ECB went as far as to suggest that part of the rationale behind last week's rate cut was the spread of economic weakness to the "core" euro zone).

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Germany manufacturing PMI

Markit, BME, Bundesbank

Against this backdrop, German newsmagazine Der Spiegel reports that members of established German political parties are defecting to AfD:

The numbers are so far not particularly threatening to the country's largest parties. Just over 1,000 of AfD's freshly minted members previously belonged to Chancellor Angela Merkel's Christian Democrats, while Germany's largest opposition party, the Social Democrats, have seen 558 members defect.

But the threat to smaller parties, particularly the CDU's junior coalition partner, the pro-business Free Democratic Party, is more acute. The FDP has lost 587 members lured by the AfD's slogan: "Straight talk instead of S€datives".

In the state of Hessen, home to Germany's financial capital, Frankfurt, the FDP has even lost a seat in the regional parliament. Just this week, Jochen Paulus switched parties from the FDP to Alternative for Germany, thereby becoming its first representative.

Add in a tax evasion scandal involving Bayern Munich football club President Uli Hoeness – who is seen as being close to Merkel – as well as more rumbling over economic policies between French and German policymakers, and you get "ominous long-term vibes," writes  Société Générale fixed income strategist Ciaran O'Hagan in a note to clients:

The wider newsflow in the euro area continues to hold ominous long-term vibes. Germany’s MoF Schaeuble again said Monday that bank resolution mechanisms must remain national. That is evidently silly in a monetary union: you’d never expect Delaware on its own to bail out the likes of Lehman. We might dismiss such talk as electioneering. This continues the series of tough comments from the German government. It remains a certainty that there will be zero progress on euro area institutional reforms this side of the German elections. We’ll have another four months of such talk then, at the risk that the talk will become ever more bellicose as we approach the September poll.

The risk is all the greater as matters are turning sour for the present German government. The IHT lead over the weekend was “Trouble at the core: pressure builds on Merkel amid anti-austerity clamour”. Merkel’s CDU is suffering in the polls on the Hoeness story and is even seeing defections to the anti-euro party. And the FDP coalition partner is flagging. Meanwhile, German 2013 tax revenue looks set to be less than forecast. Maybe worst of all, we are seeing headlines like “France Declares Austerity Over as Germany Offers Wiggle Room. Franco German entente however is at the core of the euro. Franco German fiscal policy divergences cannot last for long into 2014, at the risk of serious trouble.

In a new presentation, Deutsche Bank economist Torsten Slock highlighted the German election race as of one of the potential flashpoints that could cause an escalation in the euro crisis, citing the subordination of crisis management to domestic politics.



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