Deutsche Bank : NRW election positive for Merkel

Deutsche Bank Research

Europe

Germany

Economics

Focus Europe

Date

19 May 2017

Germany: NRW election positive for Merkel

This article is not for external distribution but for compiled version of Focus Europe Mark Wall

Chief Economist

[phone]

Dieter Braeuninger Economist

[phone]

Deutsche Bank AG/London

DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI (P) 083/04/2017.

Germany: NRW election

positive for Merkel

• Last Sunday the CDU won the important election in North Rhine- Westphalia (NRW), defeating the SPD in its major stronghold (33 vs 31.2%). The result indicates an end to the SPD's upswing following the nomination of Schulz as Chancellor Merkel's contender, and thus confirms our earlier cautious view on the likely sustainability of this development.

• The result is likely to provide a strong boost for Merkel's campaign for the federal election (on September 24). However, with another four months to go and regional topics having played an important role in voters' decision in NRW, Merkel urged her party not to become too complacent.

• The SPD's worst historical outcome in NRW has severely hit the party, not least because Martin Schulz has his constituency there. NRW MP Hannelore Kraft resigned from all positions in the party leadership to signal that the SPD's defeat was a purely regional event. But NRW elections have always mattered for Berlin and the (negative) spill-over for Schulz' campaign and his topic of social inequality is unlikely to be prevented.

• Among the smaller parties the FDP scored its best result ever in NRW with 12.6%. This provides strong tailwind for its frontrunner Lindner and the return of the FDP into the parliament in Berlin in autumn. The Greens as part of the governing coalition in NRW lost substantially with likely

  Dieter Braeuninger Economist

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  Barbara Boettcher Senior Economist ([phone]

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  Figure 1: Result of the state election in NRW on May 14

  %

  CDU/CSU

  SPD FDP

  AfD Greens

  Left Others

  0 5 10 15 20 25 30 35

  Source: Wahlrecht.de , Deutsche Bank

  Figure 2: Regional breakdown of the eligible voters in Germany*

  contagions for their performance in the federal elections. The AfD entered its 13th state parliament albeit with a very modest result of 7.4%.

• CDU and FDP have a tight majority in the parliament. With the SPD and the Greens refusing to cooperate with the CDU in NRW, a CDU-FDP

  m,

  SH 2.3

  B

  Others 61.5 million in total

  9.4

  NW 13.1

  coalition seems to be the likely option of government formation.

• In the most important polls the CDU is about 9pps ahead of the SPD, i.e. nearly as much as prior to Mr. Schulz' promotion (14pps in Dec. 2016). Only slight changes, i.e. further gains of about 2pps, would open the prospect of a CDU-FDP coalition on the federal level, too. However, the past few weeks have demonstrated how fast the political sentiment can

2.5

RP 3.1

SA 3.3

HE 4.5

LS 6.1

BW 7.8

BV 9.5

change and an increasing number of voters tend to decide on short notice.

Small federal elections

Last Sunday's election in North Rhine-Westphalia (NRW) was the last and most important signpost prior to the federal election on September 24. About four months ahead of the date, 13,1m Germans, i.e. 21% of the country's overall electorate, were called to cast their ballot. Given NRW's size and its various regions, state elections there are said to be "small federal elections". With 17,9m people NRW has more inhabitants than the neighboring Netherlands (17m). And the state's GDP (2016: EUR 670bn, i.e. one fifths of Germany's overall GDP, too) is only slightly lower than that of the neighbor country (EUR 697bn).

NRW's economic and political landscape is very diverse. It comprises traditionally conservative regions like Eastern Westphalia as well as liberal ones like

* NW North Rhine-Westphalia, BV Bavaria, BW Baden- Wuerttemberg, LS Lower Saxony, HE Hesse, SA Saxony, RP Rhineland-Palatinate, B Berlin, SH Schleswig-Holstein. Source: Federal Statistical Office, Deutsche Bank

Duesseldorf and the university cities, especially Bonn and Münster, where besides the Liberals also the Greens used to be strong. Of course, the Ruhr area, NRW's and Germany's urban-industrial heartland, in some regard still reminds of the traditional cliché. This region still suffers from relatively weak economic growth and difficulties to master the structural change from Germany's former centre of coal mining and heavy manufacturing to a modern service oriented economy. The unemployment rates in cities like Duisburg, Dortmund and Essen are among the highest in West Germany. These cities, however, contrast e.g. to dynamic clusters of mechanical engineering and automobile parts suppliers in Northeast and South Westphalia. Nevertheless, real GDP growth in NRW has (mostly) been below average in the past years - since 2010: 1.4% p.a. compared to 2% p.a. for the overall German economy.

But it is more than for the state's sheer size that last Sunday's election deserves attention. NRW and especially the Ruhr area with its more than 5m inhabitants is a traditional SPD stronghold. It is said to be a kind of antipode to Bavaria, Germany's second-largest and traditionally conservative state. NRW is also the home of Martin Schulz, the SPD's frontrunner in the federal election campaign.

Harbinger for political changes on the federal level? NRW often was a harbinger for political changes on the federal level. One example is the formation of a coalition between the SPD and the FDP in the 1960ies. In the state election in 1966 the SPD outstripped the CDU for the first time. A

Figure 3: Results of former state elections in NRW

As percentage of the valide votes, % 60

few months later the SPD managed to persuade the FDP to leave the then state

50

government coalition with the CDU and to join forces for a SPD-FDP coalition.

40

After the federal election in 1969 such a coalition was established on the federal 30

level, too. A more recent example is the 2005 state election when the then SPD- 20

Greens coalition in NRW lost its majority. This preceded the same result on the 10

federal level. As a result in autumn 2005 Angela Merkel took over from former 0

SPD Chancellor Schröder. On the other hand in all elections since 1949, the SPD has never managed to win (or defend) the chancellery if it did not also obtain the

most Bundestag votes in NRW. The outcome of the recent election - weakened CDU SPD FDP

Greens Left Others*

SPD and particularly Greens and strengthened CDU and particularly FDP - might

thus signal upcoming changes on the federal level as well.

Boost for Chancellor Merkel's campaign

The CDU's success in NRW confirms the party's recent upward trend manifest in rising popularity ratings and in the two victories in the elections in the Saarland on March 26 and in Schleswig-Holstein a week ago. Only a couple of weeks ago at the peak of the media hype following Martin Schulz' nomination as the SPD's chancellor candidate things looked quite different. Back then the SPD has caught up with the CDU in the polls and Schulz' popularity rating even surpassed Chancellor Merkel's rating.

However, the conservatives did not panic, but stayed on target. Chancellor Merkel kept her focus on her government's most pressing issue, primarily European politics, i.e. Brexit, the EU relations with Turkey and the refugee issue. Mr. Laschet, the CDU's frontrunner in NRW, simply intensified his campaign. Laschet also focused on NRW's structural problems, i.e. the relative high unemployment rate and the relatively low growth rates which have fallen short of the overall German average in the past years, deficits in education and infrastructure and internal security issues. Obviously, this more aggressive strategy paid off.

Now that this year's series of state elections has ended with a treble the CDU is able to start its federal election campaign with unexpected tailwinds. The party's

*1947, 1950 and 1954 especially the Zentrum and the KPD (communist party), 2010 and 2012 especially the Pirates, 2017 the AfD (7.4%). Source: Wahlrecht.de , Deutsche Bank

Figure 4: Real GDP growth in selected German federal states

%, yoy 7

5

3

1

-1

2010 2011 2012 2013 2014 2015 2016

Germany Baden-Wuerttemberg

Bavaria Schleswig-Holstein North Rhine-Westphalia

Source: Federal Statistical Office , Deutsche Bank

Deutsche Bank AG/London Page3

major topics, i.e. internal security, the economy and sustainable fiscal policy, seem to go down well - better than the SPD's vague call for "social justice". The CDU's recent upswing is likely to boost its campaign. And Angela Merkel might benefit twice as Mr. Laschet as well as the successful Saarland MP Kramp- Karrenbauer belong to her close allies. Nevertheless, especially the NRW result should be put in perspective. Compared to former results it means just a return to normal - in the five elections from 1990 to 2010 the CDU got 38.2% on average,

i.e. the poor result in 2012 (26.3%) was an exception.

A nightmare for the SPD

The SPD has been hit hard. In the Saarland its left-wingers ambitions to establish a coalition with the Greens and the Left died (not at least as these ambitions prevented the Saarlanders from voting for the SPD), in Schleswig-Holstein the SPD-lead government was voted out and now the same happened with the SPD- Greens coalition in NRW.

This latest defeat in particular is likely to be problematic for the SPD. Many parts of NRW are longstanding SPD territory. Martin Schulz has his constituency in NRW. The party's regional top candidate, Hannelore Kraft, did run as the incumbent. She has been in office since 2010 but could not leverage these advantages and stepped down from all official party posts on the election day's evening. While she has always been more popular than Mr Laschet, there seemed to be a clear sentiment for change within the electorate. Exit polls have shown that voters assigned a greater competence to the CDU to address their major concerns

Figure 5: Competences of the major parties in NRW

Percentage of those asked*, % Fighting against crime

Jobs Refugees/asylum policy Schools/education Traffic & transport Social justice

namely education, persistent failures to improve the infrastructure and to cope with the more recent challenges of internal security.

Furthermore, Mrs. Kraft and the NRW SPD have advocated political proposals in line with Schulz' ideas, e.g. intensified public spending on crèches, Kindergartens, schools and other state infrastructure to enhance "social equality". Kraft assuming the full responsibility of the SPD's defeat is unlikely to keep it a regional event and prevent the negative spill-over to the federal SPD. Thus, the question mark behind Schulz' major campaign topic and his chances to return the SPD has become even bigger.

FDP with a historic victory

Among the smaller parties the FDP has special reason to celebrate the outcome. With 12.6% the Liberals reached their best result ever in a state election in NRW. Already in Schleswig-Holstein the FDP has reached a double digit result. Thus the FDP which had mixed results in the 2016 state election and missed the 5% threshold in the Saarland is back on stage. The party benefited from the omnipresence of its leader Christian Lindner. He was the FDP's frontrunner in NRW and he is its top candidate for September 24. Lindner has frequently criticized the SPD stating its approach was "backward-looking" as well as Chancellor Merkel stating she was solely status quo oriented (FAZ net 28.04.). Therefore, the historic victory in NRW is a shot in the arm for Mr. Lindner and his fellow campaigners. The recent double triumph has brought him much closer to his major political goal, namely to lead the FDP back into the Bundestag (federal parliament), i.e. to get enough votes to pass the 5% threshold.

Mixed picture with regard to the Greens, the AfD and the Left

In contrast to the FDP the Greens could not repeat their Schleswig-Holstein (SH) success (12.9%). They only got 6.4%, i.e. almost halved their 2012 result (11.3%). This is in line with the unfavourable trend in the polls on the federal level. But it

0 20 40

CDU SPD Greens FDP

*Survey conducted prior to the election . Source: Forschungsgruppe Wahlen ,Deutsche Bank