Politics is a dirty business, but in Forex trading you have to face it. From a fundamental point of view, the growth of political risks increases uncertainty and restrains investors’s willingness to invest in the region economy. In its turn, business activity worsens, which finally influences GDP. In this respect, the German crisis can be affect euro more significantly, than it was expected before, especially when the opponents are signaling their intention to confront.
Angela Merkel’s claim, that new elections are better than the minority government, quickly returned EUR/USD quotes to the daily lows. Besides, she doesn’t exclude the possibility of coalition with the Social Democratic party, its leader, Martin Schulz is firmly against. The final decision will be taken by the German president, Frank-Walter Steinmeier, who ordered parties leaders to be accountable before the electorate. If CDU and SDP finally come to an agreement, markets will sigh with relief. In the opposite case, there will be either new elections or the minority government. The first scenario, in the context of growing uncertainty, is considered to be a bearish factor for euro, but should its supporters be discouraged?
Source: Financial Times.
There is a certain risk, that anti-immigrant party Alternative for Germany will have more votes than in September. Nevertheless, the most likely scenario is that the number of Christian Democratic Union seats in Bundestag will increase, due to the electorate discontent with the fact that the CDU opponents from Free Democratic Party are unwilling to compromise over “Jamaica” (because of the country’s flag colour) negotiations, as well as with the SDP leader, Martin Schulz’s stubbornness. Simply put, new elections will allow investors to buy euro for less.
The minority government is also not the worst scenario for EUR/USD bulls. The experience of Belgium and the Netherlands shows that it hasn’t damaged the economy. Moreover, this situation won’t influence the ECB monetary policy, which is the key driver of euro rate changes. Formally, the increase in U.S and German bond yields indicates, that euro is overestimated. However, it is the fault of the European central bank, unwilling to raise the rates after QE end.
Correlation between EUR/USD and the spreads between U.S. and German bond yields
Source: Wall Street Journal.
Now, the political crisis in Germany significantly restrains EUR/USD growth, but in the USA things don’t go so well too. Wall Street Journal reports that already 6 Republicans out of 52 in the Senate are discontent with the draft tax reform bill. It is about both new corporate tax rates (22% against 20% in the draft bill), and the necessity to retain the tax cuts and high income tax rate, as well as the difficulties, associated with link between the reform and Obamacare cancel.
In the short term, the outbreak of support at 1.172-1.1725 will increase the risks of the quotes drop down to 1.169 and 1.167. The resistance is around 1.176.