I'm answering in my own name here; I think on one hand it doesn't have to mean that the SPD means; on the other hand, if the rightward lurch continues, an SPD win is worth nothing.

_{*Lunatic*, n.
One whose delusions are out of fashion.}

I doubt the old rule the for the left that moving to the right, i.e.: the "center", helped winning elections.

Moving to the right did not really pay off for the SPD in the last two years. During these years, we had some sort of secret grand coalition: The conservatives used their majority in the Bundesrat (second chamber, consiting of the regional states' (Länder) governments) as a blocking majority in many law-making initiatives. Therefore, the SPD has been forced to cooperate, moving to the right. Which cost them badly.

But "left" and "right" are blurry terms.

The current boost for Schröder has, IMO, something to do with his stressing of traditional social democratic values, which is something people are used to - in contrast to concepts of the "conservatives", first of all the tax reform which is supposed to move the tax system to the direction of a flat tax system. A large part of the German constituency tends towards conservativism, and the "No experiments!" slogan frequently payed off in elections.

Do you expect a grand coalition to be anything but a long, painful waste of time and an encouragement to all the fringe parties, with the risk that it's the other side's extremists that will pick up the pieces?

As said above, de facto we already have a grand coalition. I'm not a big fan of it, among other things because of the fact you just mentioned: extremist fringes gaining ground. But a grand coalition seems to be exactly what the electorate wants. Forming a red-red-green coalition under circumvention of the - by far - strongest party (I'm thinking of a 4-6 points lead) would severely damage the legitimacy of any government resulting from such a coalition. I think, at the very moment, this is neither feasible nor wishful. Let's talk about that in four years.