- Euro enjoying a modest lift from CDU/CSU peace deal

- But Merkel now risks being a 'lame duck' Chancellor

- Solution risks being seen as unilateral German action to solve migration crisis

Image © European Union

The Euro has seen recent political headaches dissipate with the squabbling German coalition government finally finding agreement on immigration policy.

"Horrified by the prospects of a messy divorce, the joint parliamentary faction of CDU and CSU finally forced their party leaders Angela Merkel (CDU) and Horst Seehofer (CSU) to find a compromise on the details of their hotly contested migration policy last night. Logic prevailed," says Holger Schmieding, an analyst with Berenberg, the Hamburg headquartered bank.

In short, Schmieding says both parties would have had too much to lose if the CSU had walked out of the government. News of compromise draws a line under growing fears that the government might ultimately be headed for collapse; fears that saw the Euro come under pressure against an host of currencies.

News of an initial compromise at last week's EU summit gave the Euro a notable boost; something many foreign exchange commentators were taken by surprise by as they had failed to identify just how much political risk premium was in fact weighing on the single-currency due to the matter.

While the leaders of the third coalition partner SPD see a need to clarify details at an 18:00h meeting today (German time), the SPD did not reject the new proposal.

"Merkel has weathered lesser crises before. This one looks set to leave scars, though. While she is not quite a 'lame duck', the conflict makes it even clearer than before that she is serving her final term," says Schmieding.

The deal calls for "transit centres" at the German border to Austria from which asylum seekers already registered elsewhere in Europe can be sent back fast to Austria or to their original country of entry into the EU.

The deal does appear to some commentators to represent something of an unilateral German action which might have negative repercussions on its neighbours, which could prove problematic for inter-European relations at a time when some - notably France's Macron - are looking for a renewed push towards greater integration and European coherence.

"To what extent Austria and especially Italy will cooperate does not seem to be fully clear yet," adds Schmieding. "The risk of an eventual clash between Germany and Italy over migration (or fiscal issues) has not receded. If such a clash were to erupt, Italy‘s bond market would be vulnerable".

Nevertheless, markets appear to believe the deal will stand, and this should prove to be good news for the single-currency.

"The EUR is enjoying a modest lift from news that the German CDU & CSU coalition members appeared to have reached an agreement on migration policy. Yet the US-Eurozone macro and rate divergence story looks set to stay in place this week – which should be keeping a lid on the EUR/USD rally. 1.1690/1.1720 resistance is expected to hold," says Chris Turner with ING Bank N.V. in London.

|Political stability achieved overnight have led to prices firming a little. However, this is only within the current range between 1.1510 and 1.1725. We remain biased that a base and rally back towards 1.20-1.22 should develop in the weeks ahead," says Robin Wilkin with Lloyds Bank.

The EUR/GBP exchange rate is meanwhile quoted at 0.8853, close to the three-month highs registered in the previous week. ING's Turner says he is "still wary that EURGBP is on the verge of an upside break-out given its exit from a period of very low volatility. PM May looks set to face down the Brexiteers later this week, but may be no closer to a Brexit deal with the EU. 0.8900 remains the risk"

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