European Disintegration

The Fate of the Eurozone

Brexit and Beyond

Divided EU Foreign Policies

Crossing Borders

European Disintegration

This year will be the one in which political risk reaches the European Union's core members. During the second quarter, this will become evident as France — the bloc's second-largest economy — holds presidential and legislative elections, the results of which will resonate far beyond the country's borders. French voters will have to choose whether they want their country to reform the European Union or dismantle it to restore their state's full sovereignty.

Italy will also become a source of political risk as it moves closer to holding general elections. The current Italian government will probably stay in place this quarter, but the specter of an election in which Euroskeptic forces are expected to perform well will do little to ease concerns about the country's fragile banks and high debt levels. Germany, meanwhile, will try to keep the European Union together as it opens its own campaign season. The coming quarter will be eventful for Greece as well as Athens implements the reforms it promised to its creditors.

The Fate of the Eurozone

French presidential and legislative elections will be the most important events to take place in Europe during the second quarter. A significant portion of France's political apparatus will be elected and appointed over the next three months. The presidential election will be held in two rounds on April 23 and May 7, while legislative elections (also split into two rounds) will follow on June 11 and June 18. French voters will have to decide whether they want to further liberalize and deregulate their economy or increase protectionism. They will also have to choose whether they want France to stay a member of a reformed European Union or leave the Continental bloc entirely.

The biggest contenders in the elections are the nationalist National Front, the centrist En Marche!, the center-right Republicans, the left-wing Unsubmissive France, and the center-left Socialists. Should any of the moderate parties win the presidency, they will focus primarily on economic and security issues. A moderate government (especially under En Marche! or the Republicans) would seek to make the economy more competitive through various combinations of spending cuts, public investment, labor reform and initiatives to reduce bureaucracy, cut down on regulation and attract foreign investment. A moderate government would probably also direct more resources toward security forces and defense spending, while at the international level it would work to reform the European Union and defend France's leading role in it. The possibility of different parties controlling the presidency and the National Assembly cannot be excluded. This would complicate policymaking.

France's two-round electoral system has historically made it difficult for extremist parties to win presidential and legislative races. Candidates have to receive more than 50 percent of the vote to gain the presidency or a seat in the National Assembly, a threshold that the National Front, for instance, has found tough to reach. If the National Front overcomes this hurdle and wins the presidency, it will set in motion a chain of events that could lead to severe crisis in the European Union.

For one, the National Front wants to introduce tariffs on French imports and tax companies that hire foreign workers, including EU nationals. Both ideas go against the basic principles of the EU single market, which emphasizes the free movement of people, goods, services and capital. Even more important, however, the party also intends to hold a referendum on France's membership in the eurozone. Many of the National Front's campaign promises would require a majority in Parliament, and in some cases the legal procedures to implement them would be arduous. National Front leader Marine Le Pen has also said the referendum on eurozone membership would be called only after six months of negotiations on reforming the European Union. But even the mere victory of the National Front in the presidential election could trigger a crisis in the eurozone. Savers in the eurozone's periphery states (such as Spain, Portugal and Greece) could, for example, withdraw their money from local banks or transfer it to safer havens abroad, forcing authorities to introduce capital controls at the national or Continental level to stop a run on eurozone banks.

If France's moderates win, Germany will immediately invite the new president to shore up bilateral ties between Paris and Berlin and co-lead Europe. In global markets, the euro, along with riskier assets such as bonds from Europe's periphery, will strengthen rapidly. Should the National Front win, on the other hand, the German government will seek accommodation with the nationalist government in Paris, trying to dissuade it from fulfilling its most radical campaign promises. But many of the National Front's policies are simply incompatible with EU structures, limiting its room for compromise. And if serious trouble arises in the eurozone, Berlin will start making preparations for the most orderly dissolution of the currency area possible while planning its next steps with its closest partners in Central and Northern Europe. The market fallout of a potential eurozone collapse would be immediately felt in global markets as European investors flee riskier bonds and move their money to safer assets, such as German bonds.

Italy, meanwhile, is moving toward its own general elections, though it is unclear just how quickly they will arrive. The country does not have to hold elections until early 2018, but disputes within the ruling center-left Democratic Party could precipitate an early vote. The government in Rome, led by Prime Minister Paolo Gentiloni, will remain weak as Italy's main political parties prepare for the elections. Ahead of the vote, the Democratic Party will hold its primary to appoint a new leader in late April — a necessary step before the government resigns and parliamentary elections can be held.

Still, the elections will not take place during the second quarter. This means that Italy's vote will not coincide with France's, giving markets and EU governments time to digest the latter's results. But the lingering risk of elections in Italy, where Euroskeptic parties would probably make a strong showing, will add to the uncertainty clouding Italy's political and financial future. This will do little to ease market fears about the health of Italian banks and the country's high levels of public debt. But Italy could introduce some modest spending cuts to allay the European Commission's concerns about its deficit, and whatever frictions may arise, Rome and Brussels will find a compromise, allowing Italy to avoid EU sanctions.

Greece, another troubled eurozone country, will also be politically and financially fragile this quarter. Because Greece does not have any significant debt repayments to make until mid-July, negotiations between Athens and its creditors on the disbursement of the next tranche of bailout money could drag on for weeks, perhaps even extending beyond the end of the quarter. Nevertheless, the Greek bailout program will stay on track since Athens and its creditors are eager to avoid a default at all costs, though Athens will try to tone down some of the policies it has promised to implement, or announce spending increases in some areas, in hopes of avoiding a rebellion within the government.

In the meantime, Germany will continue to delay granting debt relief to Greece during its own election cycle. It could, however, make vague promises to discuss the issue in the future. Even if the International Monetary Fund does not announce a decision on its participation in the bailout program during the quarter, Greece and its creditors will work to keep it in place.

For an export-dependent economy such as Germany's, the prospect of a trade war brewing with the United States and Washington's threats to undermine the World Trade Organization are also major sources of concern. Consequently, Berlin will keep communication channels open with the new administration in the White House to defend Germany's stance on these issues, as well as on many other points of controversy between the two governments. Germany will also use its rotating presidency at the G-20 to defend free trade and the role of multilateral trade organizations.

Germany's strategy will include preserving the European Union's single market and expanding the bloc's trade relationships with other markets, primarily by supporting EU plans to resume stalled free trade talks. During the second quarter, for example, the European Union will revive negotiations with Mexico to update their free trade agreement. Brussels' efforts to sign free trade agreements with countries such as Japan and India will likewise intensify. Germany will advocate the development of closer trade ties between the European Union and China as well, though the bloc will struggle to get European companies the same level of access to China that Chinese companies have to Europe, creating room for friction during any negotiations that are held. Berlin's aggressive stance against Chinese takeovers of German companies will lead to similar complications during the talks.

To curry favor with the United States, the German government is willing to make gestures of good faith in areas such as defense spending. But this will not go over well in Germany. After all, it is an election year and the German government will be forced to keep lines of communication open with Washington while also being critical of the new administration, especially since a large portion of the German public disapproves of U.S. President Donald Trump. The relationship between the ruling center-right Christian Democratic Union (CDU) and its coalition partners in the center-left Social Democratic Party (SPD) will encounter additional tension as the two try to differentiate themselves before the general elections.

Regional elections in the northwestern German states of Schleswig-Holstein (May 7) and North Rhine-Westphalia (May 14) will test the appeal of the SPD and CDU ahead of the September vote. They will also act as a gauge of the popularity of smaller parties, such as the environmentalist Green Party, the left-wing Die Linke and the center-right Free Democratic Party — all of which could become coalition partners to the SPD and CDU after the elections end. Moreover, the regional races will show whether the nationalist Alternative for Germany (AfD), whose popularity has declined in recent months, can make gains beyond its strongholds in the east and enter the legislatures of western regions. Regardless of the AfD's performance, other parties will refuse to cooperate with it. Yet the AfD's role in German politics is not necessarily to enter government, but to force moderate parties to incorporate elements of its nationalist agenda into their own.

Brexit and Beyond

Brexit negotiations among the British government, EU institutions and EU members will begin in earnest in the second quarter. But the process will last at least two years. All sides will spend most of the next three months in exploratory discussions that aim to define the framework and terms of the negotiations, and no dramatic decisions are expected this early on. Before the talks can even begin, the European Union's remaining 27 members will have to agree to give the European Commission directives for its talks with London.

Some of the topics at the top of the Brexit agenda will include the legal status of British citizens living in the European Union and of EU citizens living in the United Kingdom. The parties are also likely to debate the Brexit's financial aspects, including the United Kingdom's contributions and payments to the European Union in the years ahead. This will create frictions, as the British government would try to keep its exit bill as small as possible. At the same time, the British government will be interested in starting conversations on the free trade agreement it hopes to sign with the European Union. But EU negotiators will insist on a sequential approach, starting with the country's exit and leaving the debate over the terms of its future relations for a later date.

British Prime Minister Theresa May's administration, meanwhile, will face the difficult task of reassuring the devolved governments in Scotland, Northern Ireland and Wales that their voices will be heard and their interests will be protected during the Brexit talks. London will also have to make sure that the central government remains in control of the Brexit process. London may promise subsidies, investment, tax breaks and even the transfer of powers currently in the hands of the European Union to regional governments to try to appease secessionist claims. It is unlikely, however, to give Scotland and Northern Ireland a decisive role in the negotiations. And as Northern Irish nationalist and unionist parties struggle to find common ground, the Good Friday Agreement that defines how the region's government operates will continue to show signs of fatigue.

Divided EU Foreign Policies

The next three months will bring a flurry of debates about Russia to the Continent. As the July 31 expiration date for EU sanctions against Russia approaches, the bloc's internal discussions about its relations with Moscow will become more frequent. Since there have not been any notable changes on the ground in eastern Ukraine or in U.S.-Russia ties since the Trump administration took office, most EU members will support the continuation of existing sanctions. Though the bloc does not have to make its decision until late July, the possibility of it coming before the end of the quarter cannot be ruled out. Should the issue be put to a vote within the next three months, some countries will voice their criticism of the sanctions but are unlikely to veto the decision of the majority. (That said, an electoral victory by France's National Front, which has argued against new punitive measures toward Russia, would significantly threaten the Continent's sanctions regime.)

Crossing Borders

As the weather starts to improve in the Mediterranean Sea, migration to the European Union's southern members will pick up. Along the migrant route traversing the eastern Mediterranean, the EU-Turkey immigration agreement still holds, but Ankara has the power to refuse to honor the deal and to stop policing migrant traffic. If it does, it would be in an effort to put pressure on the European Union, whose half-hearted compliance with the terms of the deal has rankled Ankara. The bloc, for example, has not lifted visa restrictions for Turkish citizens — one of the main promises it made to Ankara in exchange for its cooperation in preventing asylum seekers from entering the European Union. Several EU states will also continue to criticize the Turkish government's attempts to consolidate power following last year's failed coup attempt, giving Turkey added reason to threaten to renege on the deal.

Many migrants may, in fact, become emboldened by the Turkish government's threats and attempt the journey from Turkey to Greece. But Ankara will not give up on the migrant deal completely, since it still hopes to use the agreement — and Europe's fear of the political side effects that renewed waves of immigration could have in an election year — to negotiate and expand its customs union with the bloc in the near future. Maintaining these deep economic ties with Europe is especially important to Turkey as its economy continues to founder.

Regardless, EU members will try to protect themselves from a possible uptick in asylum seekers, keeping their borders closed along the biggest migration routes. This will pose a serious threat to Greece, as the country risks once again becoming a bottleneck for migrants who reach its shores but cannot keep moving northward.

There is also only so much the European Union can do to tamp down on the Central Mediterranean migrant route. In recent months the bloc has stepped up its political, economic and security cooperation with countries in sub-Saharan Africa, from which many migrants originate, as well as with Libya, the main transit state for migrants trying to reach Southern Europe. These policies will continue during the second quarter, but their impact will be modest. Italy and other southern EU members will see more migrants arrive on their doorsteps as weather conditions improve, creating tensions between them and their peers in Northern Europe. Rome will demand greater assistance to handle the influx of people, and if it allows some migrants to pass through its borders and into the rest of the Continent, frictions between it and its neighbors could worsen.