Weeks after the Sept. 18 elections denied either of the major parties a parliamentary majority, the Merkel's Christian Democrats (CDU) and outgoing Chancellor Gerhard Schroeder's Social Democrats (SPD) finally agreed to create a so-called grand coalition with Merkel at its helm.

Both the CDU and the SPD have announced their lineup for the coalition Cabinet, which is to be launched after weeks of more talks and parliament's final endorsement.

	Ulrich Cartellieri

But Ulrich Cartellieri, cochairman of the German-Japanese Forum, noted that the CDU-SPD coalition may turn out to be "rather short-lived."

Cartellieri, an expert with decades of experience in the financial sector, was speaking at a symposium held Oct. 17 at Keidanren Kaikan under the theme "Prospect of German economic policy after the Sept. 18 election and its implications to the European Union." The symposium was organized by the Keizai Koho Center.

Different face, same tune
He noted that the Merkel's new government will face basically the same set of challenges as Schroeder was confronted with after he was re-elected in 2002 -- high unemployment, low growth, an excessive budget deficit and high public debt -- a painful combination that makes reforms inescapable. "Three years later, not very much has changed . . . The fundamental problems are pretty much the same -- the rigid labor market that needs liberalization, an excessive welfare state that must be (reformed) from all-encompassing welfare to the principle of good care for the poor and the needy. An over-regulated economy that needs to be freed from suffocating bureaucracy, and a world record volume of all sorts of subsidies -- a result of decades of politics of pleasing interest groups by providing privileges for everybody and everything."

All of these must be tackled, he said, against a backdrop of negative factors, including the huge cost of supporting development in the former East Germany, an aging population, and the increasing pressures of globalization.

Cartellieri said Schroeder and his outgoing government "deserves credit for having tackled these issues and having initiated some necessary reforms in the fields of public pensions, health care, taxes and immigration."

But Shroeder "went about it halfheartedly, indecisively, with wildly contradictory indications and poor and irritating explanations to the public," leading his government to eventually lose voter confidence, Cartellieri said.

Big picture not so bad
As the new government prepares to set in, the overall picture of the German economy is "not that bleak" because some of the positive trends are expected to continue, Cartellieri said. "First of all, the cost of labor has not only been contained over the last few years, but real wages have begun to decline," he said.

Amid a sense of crisis that German investments will move to countries with low-cost labor like China and India as well as to Eastern Europe, efforts have been made to make German labor more productive and competitive, he said.

"And the cost of labor is coming down, and some export-related companies have begun or decided to either keep production in Germany or even to repatriate production lines to Germany," he said.

The inclusion of East European countries into the European Union has facilitated the rationalization and restructuring that made many German companies more profitable, with Eastern Europe now emerging as a big market for German products and services, he added.

Deregulation bearing fruit
Another positive development is the success of wide-ranging privatization and the deregulation of state-owned German businesses and monopolies since the 1990s, Cartellieri said. While the financial sector has been lagging in this effort, he predicted that it will be "a matter of time that the walls between the private, public and the cooperative banks will come down" and pave the way for overdue consolidation.

On the negative side, however, Cartellieri warned that needed reforms -- although they will likely remain on track -- may continue moving at a snail's pace.

The inconclusive election result and the CDU-SPD coalition have already raised doubts about whether Merkel can introduce the radical reforms she had earlier promised.

"I believe we must expect a continuation of the past patterns into the future," Cartellieri said.

"The impending or planned reforms of restrictive labor laws, social security, health care, the tax system, education, constitutional rules on the financial federal system . . . will most likely continue to make progress, but at a snail's pace, in bits and pieces, halfheartedly, and in an overly bureaucratic way," he noted.

The subsidies hurdle
A key question regarding sustainability of public finances in Germany, he said, is whether the government can reduce public spending on the deeply-entrenched subsidies. It became clear during the campaign that both the CDU and the SPD would seek new sources of tax revenue -- an indication that they preferred imposing new tax burdens to reducing government spending to bring deficits under control, he said.

"This is in my view a sad case of cowardice vis-a-vis the entrenched special interest groups," he said. "It is perhaps the most disappointing aspect of this last election campaign."

Cartellieri denounced the idea of raising taxes in times of slow growth as "unimaginative."

Germany's politicians should learn from Japan's experience in the late 1990s, when the administration of then Prime Minister Ryutaro Hashimoto was criticized for stifling an economic recovery by raising the consumption tax from 3 percent to 5 percent, he said.

Matter of willpower
The bottom line, Cartellieri said, is whether Merkel's coalition can "bite the bullet and go about things in a more determined fashion" to achieve the growth needed to cut unemployment and raise revenues. "Unless really substantial efforts are being made to free the labor market, and to reduce deficits by reducing government spending, there will be no substantial increase in consumer demand, therefore no substantial increase in domestic business investment, and therefore no more than anemic economic growth mainly driven by the flourishing export industries," he warned.

And as long as Germany is not going to be a growth engine for the European economy, neither will it be a propelling force in many of the European Union's pending political issues either, Cartellieri said.

Cartellieri noted that the failure of the proposed European constitution was "not a bad thing" after all. "The enlarged union of now 25 members does need time to consolidate," he said.

One question that has haunted the EU's institutional debates over the years is whether the union should be deepening within or expanding, he said.

The talks over membership for Turkey, he added, will give the Europeans a chance to "define their destiny."

Germany, for its part, will first have to clarify its own position on the matter before taking part in the EU's talks, because the SPD and CDU remain split on the issue, Cartellieri said.