The brinkmanship and party leader Seehofer's on-again, off-again threat to quit make the CSU "the biggest loser in this home-made drama" said Famke Krumbmueller, an analyst at political-risk consultancy OpenCitiz.
Sources said Seehofer rejected Merkel's assessment that the EU-wide measures would "have the same effect" as his demand to turn away at the border asylum-seekers already registered in other European Union nations.
Seehofer, a long-time Merkel critic, had openly challenged her with a plan to order border police to unilaterally shutter German border crossings with Austria to many asylum seekers, effectively daring the chancellor to fire him.
Merkel, who has become the key advocate of lax border control in Europe, was opposed to the plans, insisting a European-wide solution was needed to address the problem.
Mr Seehofer was demanding a right to turn irregular migrants away at Bavaria's border but Mrs Merkel defended a deal reached with the EU.
Seehofer, who is also the leader of the Bavarian Christian Social Union - which is closely linked to Merkel's Christian Democrats - had threatened to resign because the Chancellor would not refuse entry to migrants who have asylum claims pending in other European Union countries. Representatives of the three elements of the coalition, the CDU, CSU and SDP are meeting to discuss the agreement.
However, after a night of high drama, Seehofer later said he would hold last-ditch talks with Merkel's Christian Democratic Union (CDU) "in hopes of reaching an understanding".
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Alternatively, it could break up the two parties' 70-year partnership, depriving Merkel of her majority in parliament and pitching Germany into uncharted political waters.
"She's switched camp from the moderates in the government coalition, left the SPD and is now joining the CSU, but by this she has lot a lost of her credibility within the coalition party and also in public opinion".
But replacements for Horst Seehofer are only likely to be more hardline.
Both European and United States markets had mixed macro data outcome on Monday and it had little effect on the pair as investors were focused on German political proceedings.
Seehofer reportedly argues that measures to tackle migration agreed at a European Union summit last week aren't enough.
The most important factor for her survival is probably how long her own CDU lawmakers stand by her, and for now they are.
Meanwhile for Merkel's troops, "the image of the country, our ability to act and our ability to govern" were at stake, said economy minister and close Merkel ally Peter Altmaier.
The CSU's hard line on migration comes amid a growth in support for the far-right Alternative for Germany (AfD) party in Bavaria, where state elections will be held in October.