Talks to forge a new coalition government in Germany passed the self-imposed deadline at the end last week, and the markets paid little attention. The euro finished last week a little below $1.18, up to a little over 1% on the week. 

Talks continued over the weekend and then, late yesterday, the pro-business Free Democrats, with a dramatic flair, walked out of the negotiations. The CDU/CSU and Greens were surprised as the FDP appeared to get much of what it had wanted.  

We had suggested earlier that Merkel and the CDU/CSU were willing to concede the much desired financial minister to the FDP. In such a situation, the international responsibilities (Europe and G20, for example), could be shifted to the economy ministry. The FDP is just returning from the political purgatory, where its strident anti-European views, alienated voters and prevented it from meeting the threshold for Bundestag representation.It is rightfully cautious about losing its identity again. 

At the same time, the party’s fundos-wing appears to have prevailed over the realos wing. It seems just the opposite was the case for the Greens. There, the realos desire to share power on a national scale outweighed the fundos desire to maintain high principles at all costs. 

The same three choices that Germany has faced since the election remain: Coalition government, minority government, and new elections. Some form of coalition government is the preferable solution. A minority government cannot be ruled out, but it has no precedent in Germany. The possibility of new elections is real, but it is clearly the least attractive alternative for the German political elite who fear an even stronger showing for the populist AfD. 

There are also a fixed number of potential coalitions.  The most straight-forward is to re-engage the FDP. Lindner, the FDP leader, seemed to shut the door new talks. He may just be positioning to raise his party’s demands. After all, his ostensible reason for walking out was the return of issues that had already been “settled.” Recall that these talks were preliminary in nature, in which broad areas of agreement and disagreement were identified.