With North Rhine Victory, Merkel Doubles Down On Austerity

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Includes: EUO, FXE
by: Tom Luongo

Summary

Angela Merkel's path to re-election is clear with the CDU's victory in NRW.

She has already pivoted to a more hard line stance against populist anti-EU movements.

This will have grave long-term effects on the euro, despite the current rally.

The headlines out of Greece are frightening, but German Chancellor Angela Merkel is likely smiling. The police are rioting in response to the latest austerity edicts handed down from the European Union. Zerohedge has the story.

In my article after the resolution of the French elections I said the likely response from the leadership in Brussels would be relief and a continuation, if not escalation, of policies that has led to the political unrest around Europe we've seen to date.

And it further convinces me that the euro (NYSEARCA:EUO) is headed for a crisis in the future.

Now that Merkel's Christian Democratic Union (CDU) has won a third victory in a row over former President of the European Parliament Martin Schultz's Social Democratic Party (SPD), she is looking pretty secure in her re-election bid come this September.

Sunday's win in historical SDU stronghold North Rhine-Westphalia, the most populous state in Germany, all but destroys Schultz's chance to unseat Merkel. The results revealed a big shift 'right' with the CDU gaining more than 8 points over the last round of local elections, euro-skeptic Alternative for Germany (AfD) gaining 7.5 and the Free Democratic Party up 5 points.

And this has already seen Merkel ratchet up her rhetoric. Previously she let others lead the headlines over Brexit. But, this week she was out front and center threatening the U.K. with shutting down supply chains, specifically the auto industry, if they didn't bow to Brussels' demands.

This is exactly what I expected to happen as Merkel shored up her political position. EU leadership will believe they have contained the populist threat to their rule and will now double down on the policies that created that unrest in the first place.

Merkel now has a stronger democratic mandate to play hard ball. The North Rhine-Westphalia results are telling her to stay on the 'austerity' path, challenge the European Central Bank and assert control over the recalcitrant hinterlands of Europe.

Europocalypse Forestalled

These elections, along with the turmoil surrounding Donald Trump and his alleged improper involvement with the Russian government, has put a strong bid under the euro (NYSEARCA:FXE). Between these things, we've seen a strong move out of the U.S. dollar (NYSEARCA:UUP) and U.S. equities, which were ripe for a short-term correction to scare out uncommitted longs.

The euro rallied to nearly $1.12 on Wednesday and backed off a bit on Thursday. From the weekly and monthly perspectives, the euro is bullish. Overhead resistance now stands at $1.1302, the November 2016 high.

A close this month above that level will pave the way for a further rally towards the 2016 high of $1.1617, set last May.

If, however, the euro breaks down on the weekly chart before reaching $1.13 that would be very bearish because there is little on the horizon to push it higher from here unless the Democrats can succeed in creating complete chaos in Washington surrounding Trump.

Political unrest that could unseat a U.S. president is in no one's best interests, especially Merkel's. It will cause a bigger counter-trend rally in the euro that would crush EU member states whose budgets are already groaning under deteriorating debt quality.

Merkel and her finance minister, Wolfgang Schäuble, know they are the backstops to euro-denominated sovereign debt. If they are weak rates will spike. At the same time, they cannot allow anyone to leave the euro or confidence in them is lost as well.

Rock Meet Hard Place

So, the only course of action for Merkel at this point is to continue kicking the can down the road as long as she can. Greece is already a lost cause. The Germans have destroyed Greece's economy through one-sided austerity that favored German banks and creditors over the Greek people.

Looking forward, the next country in Merkel's cross-hairs is Italy and its teetering banking and political systems. The Italians are pursuing expanded charges against Deutsche Bank (NYSE:DB) for not only helping troubled bank Banca Monte dei Paschi for concealing losses but for running an "international criminal organization."

This occurs right after Russian President Vladimir Putin met with Italian Prime Minister Paolo Gentiloni in Sochi where they discussed increasing trade and travel relations despite economic sanctions.

Italian lawmakers and diplomats have been steady in their opposition to the Russian sanctions, which Merkel continues to tie to the Minsk II agreement, of which Russia is not a signatory.

Italy will likely be the fulcrum country to get sanctions lifted over German opposition. With the Italian political scene fracturing by the day, all of these issues become magnified if euro-skeptic parties form a coalition in opposition to Brussels and Berlin.

Right now, investors and traders must respect the current bullish impulse in the euro. But, all the resistance points noted above, especially $1.1302, loom large and act as potential areas to set up a short trade.

A daily close below $1.1070 by Friday would signal a short-term top is in on the daily chart.

Geopolitical events like these support the big moves in markets. I cover these and more in my Premium service Stocks, Shocks & Rocks, where I find both the big long-term trades and help find optimal entry and exit points.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I own some gold and silver, a few guitars and a lot of goats

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