Germany needs a softer stability pact

Stefanie Müller, Wirtschaftswoche correspondent in Madrid

22 May 2003

The German economy will probably not recover until 2004. Structural reforms are necessary, but the world’s top exporter also needs a strengthened U.S. market, as well as a more aggressive European monetary policy.

Gerhard Schröder is facing structural problems that were already evident in the early 1990s, although none of the leaders then did anything about them. To top it all, Schröder and his team have shown no particular talent for implementing rapid reforms. But at least the Chancellor expressed himself in clear terms in a recent official declaration: German unions must no longer use blocking tactics; their power must be cut back and the whole of society must make a joint effort to ensure the German locomotive picks up steam again. Union pressure must not be allowed to grow so great that individual companies cannot sign agreements with their staff that go outside collective bargaining guidelines.

In the opinion of Gonzalo Garland, macroeconomics professor at Instituto de Empresa, the country, society as a whole and the business world must all become more flexible. “Otherwise Germany will regulate itself to death”, Garland says. There are far too many rules, laws and administrative red tape. But structural reforms will only produce effects in the long term and Germany needs immediate help. In this regard, Garland gives the current government his backing. Says he, “Given the tremendous delay in introducing reforms, imbalance in the public coffers, the strict monetary policy of the European Central Bank and the control exercised by Brussels, Schröder can hardly do anything other than keep raising taxes”. There can be no doubt that the Germans would have liked the tough stability pact criteria, as well as a conservative monetary policy, for themselves. However, now that their economy has been stagnating for years, the country is calling for an urgent remedy - a more aggressive interest rate policy that, as in the U.S., could revive consumer spending. Nor could Brussels sanction further public debt. Prof. Garland sums it up: “Germany has become a victim of its own principles”.

[*D Maastricht criteria *]

Schröder and his team know this and are trying to dilute, albeit slowly, the Maastricht criteria that were not introduced under their government. But Brussels is not giving way. Countries like Spain, which have shed blood, sweat and tears in this budgetary balance process and managed to balance their domestic books, are understandably manning the barricades. José María Aznar, in an interview with the weekly Die Zeit, declared that the basis of the pact should not be upset. In his view, an even stricter monetary policy is a good idea. For with an inflation rate of 3.5 percent, any further drop in interest rates would be poison for the Spanish economy.

On the contrary, Germany has no more money and any moves to facilitate borrowing would benefit both the economy and consumer spending. Many economic sectors are on the brink of insolvency. Grundig, the major consumer electronics group, has filed for bankruptcy. As a result of the spate of chapter 11s, those currently most affected are, above all, banks like Dresdner, Deutsche, Commerzbank and Hypovereinsbank, as well as insurance firms. The telecommunications and energy sectors have also been hit. And of course small businesses, after years of drought as a result of reduced consumer confidence, now count themselves lucky with zero growth. The whole of Germany is suffering from discount-outlet fever and profit margins cannot be squeezed any further.

All this leads ratings agencies to lower their classification of German firms. From A (safe debtor) they are increasingly being downgraded to BB, which means that, in the medium and long term, they can no longer guarantee their ability to repay. To avoid, as far as possible, negative ratings that drive up the cost of borrowing, many companies are now adopting drastic cost-cutting measures. Among the Dax index companies alone, some 30,000 jobs could be destroyed in Germany this year. The economically weaker eastern part of the country will be the most effected. Deutsche Telekom alone, heavily in debt, wants to shed 15,000 jobs in the coming year.

This disastrous situation means there will be 4.2 million people out of work this year. Germany urgently needs an economic upturn. This will come, above all, from its exports, particularly to the U.S. However, German economic experts are highly sceptical about the future development of the world economic situation. They are not counting on the economy to truly recover until 2004. And this bears some relation to the apparently lengthening American war effort in the Near East, with the consequent rise in oil prices and uncertainty that reigns in the stock exchanges.

Pessimism reinforced by the Iraq conflict manifests itself also in the IFO business confidence index, of crucial importance in Germany. Firms consulted in its compilation grew dispirited yet again in March after two months of slowly increasing optimism. Jürgen Weber, president of Lufthansa, declared, “The end of the crisis is not yet in sight”. The German director of the IMF, Horst Köhler, like Prof. Garland, does not approve of softening the Maastricht criteria in the stability pact, as Schröder’s Social Democratic government is demanding. Says he, “The pact needs more flexibility; Europe needs protected zones”. And Germany needs air. And it needs it immediately.

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