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DE RUEHRL #1240/01 2780540
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P 050540Z OCT 09
FM AMEMBASSY BERLIN
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INFO RUEATRS/DEPT OF TREASURY WASHINGTON DC
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UNCLAS SECTION 01 OF 04 BERLIN 001240 
 
SENSITIVE 
 
STATE FOR EEB (NELSON), DRL/ILCSR AND EUR/CE (HODGES, SCHROEDER) 
LABOR FOR ILAB (BRUMFIELD) 
TREASURY FOR ICN (KOHLER) 
 
SIPDIS 
 
E.O. 12356:  N/A 
TAGS: ECON EFIN PGOV PREL GM
SUBJECT: CHANCELLOR MERKEL'S NEW COALITION: WHAT IT MEANS FOR 
GERMANY'S ECONOMIC AGENDA 
 
REF: BERLIN 01138 
 
BERLIN 00001240  001.2 OF 004 
 
 
¶1.  (SBU) SUMMARY: Germany's election of a center-right governing 
coalition, composed of the Christian Democratic Union (CDU), its 
Bavarian sister party the Christian Social Union (CSU), and the Free 
Democratic Party (FDP), was supposed to herald a shift to a more 
business-friendly government. The reality may be something less than 
that as campaign rhetoric collides with exploding deficits and other 
constraints; tax cuts, for instance, will be limited as the 
government strives to rebalance budgets.  On economic and social 
issues, look instead for a continuation of many of the same policies 
of the Grand Coalition, with a few concessions to business. The same 
goes for labor and social welfare programs.  Although the CDU/CSU 
took pains in the election campaign to present themselves as 
ideological bedfellows with the FDP, as head of the coalition 
government Merkel had staked out economic positions that frequently 
mirrored those of her SPD Finance and Labor Ministers. With Merkel 
still at the helm, any drift to the right will be tempered by the 
Chancellor's own commitment to "social market economy" principles. 
Major cutbacks on aid to job-sensitive industries like autos and on 
healthcare spending are therefore unlikely, as are an early 
privatization of Deutsche Bahn and a shake-up of labor hiring and 
firing policies. A similar dynamic may play out on the energy and 
environmental agenda with Merkel, the committed environmentalist, in 
a tussle with the more pro-growth FDP.  The FDP is also unlikely to 
win a battle with Merkel to loosen constraints on German business 
with Iran. Ultimately, the makeup of Merkel's cabinet (see also 
septel) may be as consequential for the Black-Yellow coalition's 
economic policies as the negotiated coalition agreement.  END 
SUMMARY. 
 
 
THE ECONOMIC AGENDA: CONTINUITY AND MODEST CHANGE 
--------------------------------------------- ---- 
 
¶2.  (SBU) As the new coalition prepares itself to take power, 
initial economic challenges will be largely tactical. (NOTE: 
Chancellor Merkel (CDU), Minister-President Horst Seehofer (CSU) and 
presumed Vice Chancellor and Foreign Minister Guido Westerwelle 
(FDP) are aiming to sign a coalition agreement by November 9 at the 
latest, before the anniversary events for the fall of the wall.) The 
Chancellor, accustomed to moderating demands from her SPD partner to 
the left, will now find herself at the other end of the political 
spectrum, as she tries to balance pro-business FDP objectives with 
what some refer to as her "social democratic course." Early 
statements indicate that she intends to block FDP assaults on some 
policy positions taken by the previous Grand Coalition. Potential 
flashpoints include financial market regulation, targeted state 
intervention on behalf of troubled industries and companies, and 
health care policy. CDU sources tell us consideration of these issue 
areas may also guide the party as it parcels out the various 
ministries. "In financial matters, working with the FDP will become 
more difficult, certainly in the beginning," a Chancellery contact 
told us. The party will have a "steep learning curve and will have 
to modify and moderate its positions on several policy areas." 
 
¶3.  (SBU) A key issue to watch will be tax reform (reftel); the CDU 
and FDP will have to deliver, after making this their central 
economic campaign issue. The CDU envisaged decreasing the corporate 
tax rate, and using tax incentives to encourage public and private 
sector research and development. The FDP promised a radical overhaul 
of the entire system, with lower rates at some levels but higher 
rates at others; the net effect, however, would be a 35 billion euro 
loss in revenues, according to independent estimates.  Tax policy 
could, therefore, be a point of contention, but lower rates for 
small earners and for families, as well as some cuts in the 
corporate tax, are likely outcomes in any event. 
 
¶4.  (SBU) With an expected budget deficit of more than 2 percent 
this year and 4 percent in 2010 -- just as mid-term targets for 
Germany's balanced budget amendment kick in, mandating structural 
deficits of no more than 0.35 percent -- the new coalition will face 
strong pressures on revenues. A VAT hike, at least in the near term, 
is unlikely since Merkel publicly ruled it out.  Tax cuts, however, 
could be accompanied by a "streamlining" of the tax code: code for 
phasing out subsidies. Cutbacks in pensions, health care, 
unemployment support will be more difficult, since less funding for 
these social systems would increase costs for companies, which the 
FDP would staunchly oppose.  A senior Chancellery official envisages 
a net fiscal impact of around 10 billion euros at the most.  Bottom 
line: the scope for cuts is limited. 
 
THE LABOR/SOCIAL AGENDA: MERKEL'S BACKYARD 
 
BERLIN 00001240  002.2 OF 004 
 
 
------------------------------------------ 
 
¶5.  (SBU) In their initial reactions to the election result, ranking 
union leaders warned the new coalition government against embarking 
on a "neo-liberal policy course" and to respect worker rights. The 
main reason for their concern is the FDP's election platform which, 
inter alia, calls for limiting labor's role in company advisory 
boards and work councils, and for measures to weaken protection 
against dismissal rules and collective bargaining coverage. 
 
¶6.  (SBU) Disappointed with the election outcome, German Trade 
Federation (DGB) President Michael Sommer warned against "an 
eradication" of the social-welfare system due to the crisis. In a 
televised interview the day after the election, Sommer reminded 
Chancellor Merkel to keep her promise not to weaken the existing 
protection against dismissal regulations. Sommer characterized FDP 
demands as a "declaration of war" against the unions, and warned the 
new coalition of "consequences." If necessary, unions would be able 
to mobilize resistance, Sommer held. 
 
¶7.  (SBU) Despite the sharp public rhetoric, union leadership knows 
it needs to continue on its current moderate course, including 
restraint on wage increases. In order to influence policymakers, 
leaders have scheduled a meeting with Merkel to discuss the economic 
crisis and the new coalition agreement. Union leaders know that 
Merkel is their potential ally in the coalition and will not 
hesitate to woo her.  In a similar vein, Hubertus Schmoldt, outgoing 
chair of the Mine, Chemical and Energy Workers Union (IG BCE) noted, 
"The election result is obviously not what we had wanted, but we 
will look for a dialogue and cooperation." 
 
¶8.  (SBU) In a September 29 meeting, IG Metall's North 
Rhine-Westphalia district leader Oliver Burkhard told Embassy that 
the election outcome could be attributed, in part, to the SPD's 
obvious lack of "compassion" for the "ordinary people" most 
seriously affected by former Chancellor Schroeder's Agenda 2010. 
Burkhard was cautiously optimistic that a CDU-led government might 
correct some shortcomings in the labor market and pension reforms, 
and did not expect major changes in labor law or worker 
participation rights. "The FDP will not prevail," he said, referring 
to statements by prominent CDU leaders in North Rhine Westphalia 
such as Pofalla (a possible new Labor Minister), NRW Labor Minister 
Laumann (chair of the CDU's labor wing, and also a potential 
candidate for Labor Minister) and NRW M-P Juergen Ruettgers, who 
immediately after the elections strongly warned the FDP not to 
expect the new government to touch hot button issues like protection 
against dismissals, co-determination or health insurance system. The 
coalition leader, Merkel, is likely to agree. 
 
 
STATE BAILOUTS: THE OPEL TEST CASE 
---------------------------------- 
 
¶9.  (SBU) Opel and Hypo Real Estate (HRE) may be early test cases 
for the new coalition. Voices in the FDP (and CDU/CSU) bemoaned the 
Grand Coalition's willingness to prop up struggling firms through 
take-over, loan guarantees and other market interventions. Serious 
debate, however, centered mainly on which firms were systemically 
important enough to be saved, and how many jobs were at stake. 
 
¶10. (SBU) During the campaign, FDP-leader Guido Westerwelle 
criticized Merkel's handling of the Opel bailout, but steered clear 
of dismissing a government role in saving Opel jobs, some of which 
are found in his home state of North Rhine-Westphalia. The 
Chancellor could use a calculated confrontation with the FDP to 
demonstrate CDU compassion. Where such a strategy would leave the 
CSU and, in particular, the current Economics Minister zu 
Guttenberg, is an open question, since zu Guttenberg once advocated 
insolvency for Opel. On the other hand, the Chancellor is also 
vulnerable. As the Magna deal becomes more complicated and mired in 
controversy, it could well become more draining on taxpayers. Not 
facing these constraints, the FDP could argue against shoveling more 
public funds into Opel. 
 
 
PRIVATIZATION: NOT SO EASY 
-------------------------- 
 
¶11.  (SBU) The previous government was committed to the 
privatization of the public sector German Railway (Deutsche Bahn - 
DB).  Evidence of mismanagement, however, forced repeated delays of 
the plan to place DB stock up for sale. Analysts have concluded that 
the troubled company is no longer a viable candidate for 
 
BERLIN 00001240  003.2 OF 004 
 
 
privatization. In addition, the protracted recession has hurt 
railways badly, making it difficult to find investors willing to 
purchase DB stock. Ever the pragmatist, Chancellor Merkel would 
likely be willing to delay privatization indefinitely. The FDP, by 
contrast, is committed to privatization of public sector holdings on 
ideological grounds and could press for the plan to proceed, even if 
this is not the right time. 
 
 
NUCLEAR PHASE-OUT ON HOLD? 
-------------------------- 
 
¶12.  (SBU) During the campaign, the SPD tried to make nuclear power 
into an issue, but it failed to resonate with the voters. The SPD 
argued that under no circumstances would it delay the phase-out of 
Germany's nuclear power plants. (NOTE: The current arrangement would 
close the last reactor some time around 2020.)  The FDP favored 
extending the life of the reactors. Merkel refused to be pinned 
down, stating only that nuclear power must serve as "bridging 
energy" until renewable energy sources are fully up and running. 
 
¶13.  (SBU) With the SDP now in opposition, the CDU-FDP coalition is 
likely to become more sympathetic toward nuclear power. The CEOs of 
energy giants RWE and E.ON have offered to turn over to the 
government part of the additional earnings generated by any 
extension of nuclear power.  As the EU's cap and trade system 
becomes more widespread, nuclear power could become more attractive. 
Should Germany proceed with the phase-out, it has few viable options 
to replace the power generated by nuclear reactors, which currently 
provide 23 percent of the country's power needs. The introduction of 
more coal-fired plants with their large CO2 emissions would be 
prohibitively expensive while greater use of natural gas would 
increase Germany's dependence on Russia, the only viable supplier. A 
CDU-FDP coalition could opt for an extension, although it would 
touch off a serious battle with the opposition and a hot public 
debate; Germans from across the political spectrum oppose nuclear 
power. 
 
 
HOW GREEN ARE YOU REALLY? 
------------------------- 
 
¶14.  (SBU) Under the Grand Coalition, Germany embraced 
environmentalism with an enthusiasm rarely seen in other countries. 
Large tax-payer subsidies have fueled the creation of an enormous 
renewable power industry and Germany has surpassed its Kyoto Accord 
goals for curbing CO2 emissions. This has come at a heavy price and 
become the cause of considerable complaint from many of those who 
voted for the incoming CDU-FDP coalition. More conservative voters 
argue that Germany should not take an economic hit to meet its 
climate change and environmental goals, while economic rivals like 
China and India ignore global warming and the environment to procure 
an advantage. 
 
¶15. (SBU) Originally hailed in the media as the "Climate Chancellor" 
for her efforts to elevate awareness of environmental concerns, 
Merkel, along with the SPD, implemented large, taxpayer-subsidized 
plans that helped build a world-renowned renewable energy industry. 
Merkel remains under pressure from German heavy industry concerned 
about carbon leakage and resulting job losses, however, especially 
in the auto, steel, chemical, aluminum, and cement industries.  Last 
December, Chancellor Merkel and the Economics Ministry lobbied the 
EU Commission to exempt German heavy industry from the planned 
auction of carbon permits in the EU Emissions Trading Scheme (ETS). 
She also expressed deep opposition to EU legislation seeking to tax 
emissions from large cars, which would hurt the luxury sedans 
produced by German automakers.  Against the backdrop of a shaky 
economy, we expect to see the new coalition seek to navigate between 
the Scylla of climate advocates and the Charybdis of heavy industry. 
 Merkel will likely seek to execute her domestic climate renewable 
and energy efficiency plan, but with little further ambition, 
particularly if she is tugged back by the FDP. 
 
COMPLICATING SANCTIONS AND EXPORT CONTROLS 
------------------------------------------ 
 
¶16. (SBU) The shift in coalition partners from the SPD to the 
pro-business/pro-export FDP may also complicate Merkel's desire to 
tighten sanctions against Iran should diplomacy fail.  A FDP-led MFA 
is likely to keep the interest of their core business constituency 
in mind, particularly in times of financial crisis, and may be 
reluctant to back stronger sanctions that would negatively impact 
German exports.  In addition, the new coalition may become more 
 
BERLIN 00001240  004.2 OF 004 
 
 
liberal on the exports of "war weapons," particularly in politically 
sensitive cases that are decided by the "Bundessicherheitsrat" 
(national security council) - a panel composed of Merkel and the 
Ministers of Foreign Affairs, Defense, Finance, Economics, Interior, 
and Justice, which will be populated exclusively by CDU/CSU and FDP 
party members.  On the other hand, the export control authority for 
civil and dual-use goods, BAFA, is an independent agency within the 
Ministry of Economics and in theory is independent from any shift in 
the governing coalition.  And if Merkel decides on tougher sanctions 
for security considerations, that will trump the concerns of German 
business in Iran. 
 
 
MINISTERIAL ROULETTE 
-------------------- 
 
¶17.  (SBU) While speculation over future Black-Yellow policies is 
becoming a national pastime, the direction of the new coalition's 
economic, social and environmental policies is largely a question of 
who will lead the various ministries (see septel for full cabinet 
discussion).  The Finance Ministry is seen as the big prize, with 
the Economics Ministry trailing somewhat behind.  Although the Labor 
Ministry does not have the same cache, it is an important bellwether 
of social issues. Options follow: 
 
--Finance: CDU will like to control the purse strings, but lacks 
financial expertise.  Hesse Bundestag Member Roland Koch is 
mentioned as a possibility, but he has shown no signs of interest. 
Current Economics Minister zu Guttenberg is another, as is Hans-Otto 
Solms (FDP).  Bottom line: No clear front runner. 
 
--Economics: Although the FDP may want it, it has only one viable 
candidate: Rainer Bruederle. Succeeding the youthful and dynamic zu 
Guttenberg will be a hard act to follow for the soft-spoken, 60 
year-old Bruederle.  Moreover, zu Guttenberg is rumored to want to 
stay on as Economics Minister. 
 
--Labor: The CDU wants it to emphasize its credentials on social 
policies. The Chancellor may want to reward loyal stalwarts such as 
CDU Secretary General Ronald Pofalla. Josef Laumann, Social Affairs 
Minister in North Rhine-Westphalia is another leading contender (see 
septel). 
 
MURPHY