Germans vote for change; will they get it?

By Paul Taylor
September 27, 2009

angieGermans have voted for change. A centre-right government with a clear parliamentary majority will replace the ungainly grand coalition of conservatives and Social Democrats that ran Europe’s biggest economy for the last four years.

This should mean an end to ”steady as she goes” lowest common denominator policies, and at least some reform of the country’s tax and welfare system. The liberal Free Democrats, who recorded their best ever result with around 14.7 percent, will try to pull the new government towards tax cuts, health care reform, a reduction in welfare spending and a loosening of job protection in small business.

Conservative Chancellor Angela Merkel, a cautious centrist, made clear in her first post-election comments that she she would not allow a radical lurch to the right. She promised to be the ”chancellor of all Germans” — old and young, entrepreneurs and workers — and said the conseravtives would be sufficiently dominant in the new coalition to prevail “in questions that affect social balance”.

The new government faces tough economic challenges in what is bound to be a more polarised political atmosphere, with the Social Democrats in opposition. The economy is expected to contract by at least 5 percent this year, and export-led growth is likely to return only slowly. Unemployment is set to explode in the coming months as short-time work schemes run out. The budget deficit is set to top 6 percent of gross domestic product next year, more than twice the EU limit. So 2010 will be an extremely difficult year. But there are some problems that are even more urgent.

The first big choice involves Germany’s ailing banks. Outgoing Finance Minister Peer Steinbrueck admitted last week that the public-owned regional Landesbanks “continue to pose an enormous systemic risk to our market”. The outgoing parliament passed a virtually useless “bad bank” law meant to encourage stricken financial institutions to put their toxic assets into state-guaranteed special purpose vehicles. The banks have so far spurned the system because it leaves the risk of losses with them rather than with the taxpayer.

Merkel and her new partners need to amend the law so that the state takes more of the risk, otherwise Germany faces a future of “zombie” banks that are too burdened with liabilities to lend to the real economy. That won’t be popular, with the left bound to claim that taxpayers are being forced to bail out wealthy bankers.

Fixing the banks is more urgent than cutting taxes or curbing public spending to revive the economy. That also means merging the Landesbanks, shrinking their activities and privatising as much as possible. The Germans must also be ready to allow healthy foreign banks to buy up sickly German ones. That is the logic of the European single market, to which a centre-right government is likely to be more committed.

That brings us to the next urgent priority. The new Berlin government should reconsider the dodgy deal it clinched on the eve of the election to rescue the ailing Opel auto manufacturer. Germany promised billions of euros in state aid for a consortium of car parts maker Magna and Russia’s Sberbank to take over General Motors’ European arm in order to preserve four production sites and as many jobs as possible in Germany.

The European Commission has made clear that “bribing” companies to skew restructuring plans according to national interests breaches EU rules. Merkel should seize the opportunity to seek a deal with other countries with Opel and Vauxhall production sites to co-fund a restructing plan along strictly commercial lines. In the longer term, Opel will need a bigger industrial partner to achieve critical mass in the inevitable consolidation of European auto sector.

Fixing the banks and Opel will be the first two tests of whether Germany gets the change it needs. Tax cuts and welfare reform will take longer and be trickier, especially given the burgeoning budget deficit and debt mountain.


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