A September European Political Update

Editors’ Note: MarketMinder Europe is politically agnostic. We prefer no party nor any politician and assess developments for their potential economic and market implications only.

Monetary policy decisions have been hogging all the headlines recently, but there have been other notable political and market stories on the Continent, including a Swedish general election, two German state votes and chatter about an EU windfall tax on energy companies. Whilst none are earthshattering on their own, we think there are some interesting and noteworthy tidbits for investors.

Sweden’s New Government

Sweden will have a new government after the four-party, centre-left opposition bloc, led by Social Democratic Party leader and former Prime Minister Magdalena Andersson, won a tight vote. The Social Democrats, the Green Party, the Centre Party and the Left Party took 176 of the Riksdag’s 349 seats against incumbent Prime Minister Ulf Kristersson’s centre-right Moderate Party and its allies’ 173 seats.^[i] Andersson’s victory sparked numerous sociological and political analyses, from the implications for centre-left parties across Europe to whether higher taxes are coming for Swedish businesses.

However, Andersson will have her work cut out for her in forming a new government. Whilst her allies campaigned as a bloc to upend the centre-right government, we see myriad internal divides. The Centre Party said it would not sit in government with the Left, which expects to be in the next government in return for its cooperation.^[ii] The Green Party proposed stopping the restart of nuclear power and opening up the country to more migration—which some Social Democrats are against.^[iii] The Green Party and Left Party’s calls for higher taxes don’t have broad support amongst the bloc’s other members.^[iv]

As the Social Democrats negotiate, the latest election results and recent history suggest the next government, whatever its composition, is likely to be gridlocked since it will depend on multiple parties’ support. Kristersson’s Moderates formed a minority government with the Liberals and Christian Democrats and relied on the right-wing Sweden Democrats’ parliamentary support.^[v] Likewise, during Andersson’s first stint as PM, the Social Democratic Party was a single-party minority government and relied on support from the Centre Party, the Left Party and the Greens.^[vi]

In both cases, neither government proved inherently positive or negative for stocks. During Kristersson’s government, Swedish stocks rose 69.3%, trailing eurozone (95.4%) and global stocks (84.2%).^[vii] During Andersson’s term from November 2021 to October 2022, Swedish stocks fell more sharply (-20.2%) than the eurozone (-13.3%) and global markets (-6.0%).^[viii] Global trends tend to swamp domestic politics, and according to our research, Swedish markets’ weakness had less to do with Andersson’s premiership and more with the shallow global bear market in 2022 (which occurred when returns are denominated in USD)—and their lag after that was more about their relative lack of Tech.^[ix]

Merz’s ‘Disaster’

Germany held two state elections over the weekend, and according to Chancellor Friedrich Merz, the results were a “disaster” for the coalition government.^[x] In Mecklenburg-Western Pomerania—a largely rural state in the formerly communist East Germany—the far-right Alternative für Deutschland (AfD) won 38% of the vote, ahead of the centre-left Social Democrats’ 35.5%, a member of Merz’s coalition.^[xi] Merz’s Christian Democratic Union (CDU) garnered just 4.9% of the vote, short of the 5% threshold to enter the regional parliament.^[xii] In Berlin, the far-left Linke Party took 25.7% of the vote—the first time Linke topped polls in the state—as the governing CDU fell to second place at 19%.^[xiii] These two votes followed a poor electoral showing by the CDU in the state of Saxony-Anhalt—also in eastern Germany—two weeks ago, in which the AfD took a plurality followed by Linke.^[xiv]

Many analysts we follow now say Merz probably isn’t long for the chancellorship, as his personal approval rating is around 10%, plumbing record lows.^[xv] For his part, Merz said he plans to stay on as chancellor and party leader and continue to push reforms some find contentious, including raising the retirement age from 64 to 67. Now, it is impossible to predict politicians’ actions (see former British Prime Minister Keir Starmer for more). Perhaps Merz steps down, driving some short-term political uncertainty. Perhaps he sticks around, given no clear successor has emerged to replace him. But for the foreseeable future, Merz’s dwindling political capital suggests to us he won’t be able to pass much of consequence going forward.

For investors, Merz’s current situation is a reminder to not overrate politicians’ ability to support (or harm) the economy. We saw many observers talk up the prospect of reform under Merz, projecting the government would unleash spending and pull Germany out of its sick-man doldrums. Yet those changes weren’t as vast as advertised, and reforms often create winners and losers—which can stir uncertainty. Now that political gridlock looks pretty entrenched, we have seen arguments the government won’t be able to do much to help the economy—which we think overlooks how Germany’s private-sector economy never needed much government help. Stocks recognise this, and lowered expectations indicate a wider gap between expectations and reality—bullish for German markets, in our opinion.

Oil’s Windfall Now a Headwind?

Is the EU about to hit oil companies with a windfall tax because of the recent spike in oil prices?^[xvi] German Finance Minister Lars Klingbeil alluded to that possibility last Friday.^[xvii] The idea of a tax on profits tied to a sudden, unexpected gain has been bubbling for a while—and such a levy isn’t new. The EU imposed a brief windfall tax in September 2022 (which expired a year later), and governments in Italy, Spain and Poland signed an open letter calling to renew this duty.^[xviii]

The European Commission’s Economic Commissioner Valdis Dombrovskis said there are no plans for an EU-wide proposal, preferring to leave it to national governments.^[xix] On that front, the appetite for a tax doesn’t appear to match the rhetoric. Some nations have windfall taxes on banks, and several had temporary windfall taxes in 2022.^[xx] But Frontier Market Romania is the only EU country with a pure windfall tax on the Energy sector now—which is supposed to expire next year. Poland and Portugal have proposed their own levies, but they remain stuck in their respective parliaments. The outlier: Brexited Britain, which kept and increased its windfall tax on oil and gas firms.

Windfall taxes can be popular. Higher prices, especially at the petrol station, have weighed on households for the past several years, so wouldn’t it make sense to tax oil and gas companies that received bumper profits for reasons outside their control (e.g., war)? Economically, though, we have found these taxes can discourage investment and oversimplify the Energy sector’s cyclicality. But whilst we think they aren’t great, our analysis of recent returns finds windfall taxes aren’t huge negatives for stocks—see the UK, where a windfall profits tax on oil and gas firms has remained in place, yet it didn’t majorly swing UK and global Energy sector returns even as firms blame it for curbing local investment.^[xxi]

For a useful analogue, go back to 2021, when G7 finance ministers reached a landmark deal for a global minimum corporate tax. This 15% corporate tax rate took years to implement, and there was resistance even amongst EU members. The EU officially implemented the tax across its member states on 1 January, 2024, but it wasn’t applied the same way across the board. Cyprus, Poland, Portugal and Spain enforced the rules after a delay.^[xxii] Estonia, Latvia, Lithuania and Malta all opted for a six-year deferral until 2029.^[xxiii] And whilst not an EU member, the US, the world’s largest economy, chose not to implement the new tax rule. High-level proposals get eyeballs, but history argues against tax rhetoric mirroring actual implementation.