Fri, May 16, 2003 - Page 9 News List

German reform plan failing to revive economy

Germany is still suffering from the errors made after unification and is hamstrung by ever closer European monetary union

By Nick Antonovics  /  REUTERS , BERLIN

Germany's economy is barely growing, unemployment is rising and inflation is so low that some see a risk of Japan-style deflation.

The country, once Europe's economic powerhouse and anchor of its currency system, is now viewed as the continent's biggest problem, the red light at the back of the euro train.

Opinion on what to do about it is divided, but on one thing there is unanimity: the "Agenda 2010" reform remedies set out by Chancellor Gerhard Schroeder that have split his party and threaten his government are no miracle cure.

"It should have been called Agenda 2003, nothing more than that. If this is all that's going to be done by 2010 then we are lost," said Ulrich Schroeder, chief European economist at Deutsche Bank.

The reforms, bitterly opposed by left-wingers among the ruling Social Democrats and by trade unions, are aimed at breaking a vicious circle of rising labor costs and joblessness through cuts in one of Europe's cosiest welfare systems.

Health and pension levies that make German labor so expensive are to be lowered, as are unemployment benefits, which act as a de facto minimum wage for the economy.

The package also includes steps to stimulate demand by letting small firms take on temporary workers without having to respect strict employment protection rules and by offering soft investment loans to local authorities and home owners.

No short-term impact

However, none of the major reforms will start before next year and the government says the cuts to jobless benefits must be phased in over 26 months to avoid penalizing current recipients, which would breach Germany's constitution.

"The reforms are an attempt to regain the confidence of consumers and investors," said Eckhardt Wohlers, chief economist at HWWA, one of Germany's six leading economic institutes.

"They're a step in the right in the direction and a remarkable one for this government, but they are not enough. Germany will need a lot more," he said.

Unemployment, now around 4.5 million, is forecast to hit a post-war high of 5 million next winter, reforms or not.

So far the only measure that seems certain to be approved is an increase in tobacco duty, designed to shift some social security financing to the tax system.

Asked if he feared the government had reached the limit of what it could achieve, Deutsche Bank's Schroeder said, "I am afraid, yes."

Kohl's mistakes

Germany is sinking under the fiscal burden it took on with unification in 1990, hamstrung by the constraints of European monetary union (EMU) and buffeted by a stormy global economy.

Its economy slipped into a technical recession at the end of 2001 and has stagnated since. All main international organizations expect growth this year to be below the government's latest, downward-revised forecast of 0.75 percent.

The budget deficit broke the EU's three percent of GDP limit last year and will do so again this year, Finance Minister Hans Eichel has said.

There is widespread agreement on the causes of the country's decline. To smooth unification, the then government under conservative chancellor Helmut Kohl took what economists view as a series of misguided decisions.

It imposed West Germany's exchange rate and costs on the east, destroying the region's industry. It used subsidies to fuel an artificial construction sector boom that turned bust and, to pay for it, hiked taxes, mainly on labor.

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