My apologies for constantly returning to Germany but for the moment it is the pivot of the world. Germany is the fourth largest economy in the world, the largest economy in Europe, the lender of last resort and the foundation of European stability. If Germany weakens or destabilizes, Europe destabilizes, and it is not too extreme to say that if Europe destabilizes, the world can as well. I am confident in saying I am not making too much of a small thing. In Sunday’s state election in Berlin, the Social Democratic Party (SPD) got 21.6 percent of the vote. Chancellor Angela Merkel’s Christian Democratic Union (CDU) got 17.6 percent. A party called Die Linke (or The Left) got 15.6 percent and the Greens got 15.2 percent, while the liberal Free Democrats garnered 6.7 percent. The anti-immigration party Alternative for Germany (AfD) won 14.2 percent.
The difference between AfD and the party that got the highest percentage of the vote was just 7.4 percent. Three other parties were jammed between these two. In other words, the electorate in the Berlin region is completely fragmented. Put another way, the mainstream SPD and CDU together got a little over a third of the vote. The rest went to anti-establishment parties, with the two left-wing parties, Die Linke and the Greens, getting over 30 percent combined and the anti-immigration party getting just under 15 percent.
Berlin does not represent all of Germany, but it is the capital. Therefore, the fact that the mainstream parties were together repudiated by the majority of voters is significant. In Berlin at least, the German political system has shattered. Even a coalition of the SPD and CDU wouldn’t be enough to rule. Adding the Greens (a sort of establishment party) wouldn’t give them a majority either.
If the Berlin results are replicated on a national level, Germany is going to become ungovernable. This assumes that Berlin is a leading indicator of party support, that in a national election the establishment parties wouldn’t get more votes to avoid this outcome, and that Germany’s political and economic conditions won’t improve. Having said all that, this result, taken at face value, indicates that the European foundation, Germany, is moving toward a major political crisis that will resonate.
The migration issue is obviously a major factor, but in the end, the economy is even more important. The Bundesbank announced yesterday that the German economy could slow down in the third quarter. Given that it has hardly been screaming along to this point, and that Germany needs to increase its growth, the news from Bundesbank is troubling. The ongoing challenges facing Deutsche Bank are also concerning. It is now facing significant fines in the United States, totaling about $14 billion. This should not be a staggering amount for one of the largest banks in the world, but questions have been raised about the impact of paying such fines on the bank’s capital base. This gives us a sense of the underlying weakness of Deutsche Bank and therefore of the German and European banking system.
Meanwhile, a Financial Times story pointed out that U.S. imports have declined. We expected this. The U.S. economy is also not performing at its best, but in addition, many of the items that had been imported are becoming cheaper to produce in the United States. There are structural changes under way in the global economy. And somewhere out there a cyclical recession is lurking.
The Financial Times article focused on the impact this will have in China. In our view, the major impact will be on Germany. Germany derives almost 50 percent of its GDP from exports. As Europe has weakened, Germany has shifted its export focus to the United States and, to a lesser extent, China. If the United States is cutting Chinese imports, then German exports to China will likely contract. But far more important, if the U.S. is cutting imports from Germany, Germany’s economy will be affected rapidly and we think dramatically. The Germans are addicted to exports and therefore utterly at the mercy of their external customers. Their last major customer with a healthy economy is the United States. If the United States cuts purchases, the German economy will be hit hard because Germany can’t increase domestic consumption enough to compensate.
Finally, the Bank for International Settlements (BIS) issued a report asserting that the international financial system is showing instability. The BIS is one of the more reliable analytical sources, as it is genuinely not beholden to anyone. The BIS was the first to note the crisis in the Japanese system and other significant events. So when it speaks, we listen, and it is now saying that the international system is unstable, not least because of European banking weakness. The instability does not seem to be cataclysmic, but given that Germany is at the heart of the earthquake, even a moderate shaking will bring it down.
All of this is known to ordinary Germans probably better than it is to the financial community. The ordinary German will feel the tremors early on. The financial community has a motivation to live in denial (as investors think, “let’s close that one last huge deal”) and the financial markets do not feel the tremors the same way an ordinary person does. For the markets, the slowdown in the economy is a statistic. For the ordinary worker, it could threaten his job, mortgage and so on. In many ways, he is more sensitive to economic shifts than the banks.
When you consider the fact that the results of the Berlin election look like someone smashed a plate on the floor – with support for the various parties fragmenting into pieces – it is clear that something is being felt on the ground. The strength of the left-wing parties is not that they are pro-migration. That doesn’t help them much, if at all. Their strength comes from their anti-austerity stance. Voters believe that anti-austerity parties know the current situation can’t continue. They also believe that, at the very least, these parties can’t be worse than the mainstream ones.
In my view, there is a growing sense in Germany that the German system is failing. It has not yet dawned on most that excessive exports are a sign of weakness and not strength because it makes a country dependent on external customers. But the tremors are now being felt by the finest financial analysts in the world: ordinary people who work for a living and need their paychecks to survive. The political base of modern Germany is crumbling, and as in Britain with Brexit, it will be dismissed as the work of the irresponsible proles.