How Far Left Will Europe Lean?

Business fears Europe's new leaders will derail reform

It was hardly the debut that business had hoped for. On Oct. 11, the leftist coalition of German Chancellor-elect Gerhard Schroder announced a tax plan so tepid as to be ineffectual. Although personal and corporate tax rates will technically fall, the drop will phase in over three agonizing years. Meanwhile, the plan closes so many business tax loopholes that companies are likely to come out losers.

The move sent a disheartening signal to those anxiously wondering which way Europe's left will tilt in setting policy. Self-styled center-left governments now control 13 European nations. In good economic times, the centrists have held sway. But in a climate of slowing growth, Schroder and French Prime Minister Lionel Jospin face a credibility crisis. Elected on promises to reverse chronic unemployment that hovers around 11.5%, they must cover their flanks on the left or watch their popularity erode. Business fears that under such economic and political pressure, Continental Europe will drift toward high government spending, delay reforms, and remain indifferent to the plight of companies already squeezed by sky-high costs.

Unlike the Labour government of British Prime Minister Tony Blair, the French and German leaders have radical coalition partners to satisfy. Jospin must contend with Communist and Green party members who are demanding greater social gains. Schroder, meanwhile, faces pressure for leftist economic solutions from former party chief Oskar Lafontaine, his appointee for Finance Minister. "Lafontaine and Jospin are two key figures who could be seen tilting to the Old Left," says Jonathan Story, professor of political science at INSEAD, the management school in Fontainebleau.

Already, signs of newfound belligerence from the left are popping up on the Continent. On Oct. 9, the government of Italian Prime Minister Romano Prodi was toppled by radical Communists who wanted more social padding in the 1999 budget. The Communists bowed out of the coalition when Prodi returned to power. But Prodi and Jospin are lobbying EU officials in Brussels for a huge, Europewide infrastructure or technology program to create jobs and stimulate demand. And on Oct. 13, French Finance Minister Dominique Strauss-Kahn proposed $365 million in tax cuts for home improvement--to be partially offset by closing corporate tax loopholes.

Outside of government, traditional supporters of the left are feeling their oats. IG Metall, Germany's largest union, is demanding a 6.5% pay increase in its next contract. Experts expect it to settle for 3% or less, but that would still be a major hike from the 2.5% and 1.5% it accepted in 1997 and 1996--especially since Germany's recovery is looking shaky. In France, demonstrations in two southern towns calling for more public spending on high-school teachers and supplies have snowballed into a national movement, with students expected to stage a nationwide protest on Oct. 15.

More ominous, if growth slows sharply in 1999 and unemployment creeps up, the left could put political pressure on the new European Central Bank after monetary union formally starts on Jan. 1. Lafontaine already has called for lower interest rates. In France, some politicians are even more direct. "We do not accept the independence of the central bank," fumes Alain Lipietz, the Green party member of Jospin's economic advisory council.

DISCIPLINE. ECB Governor Wim Duisenberg insists his bank will not be influenced by Germany's left or any other politicians. But such outbursts upset central bankers and industry leaders who desperately want the new single currency to be launched with a solid underpinning of monetary discipline. "The stability of the euro is at stake," warns Hans-Olaf Henkel, president of the Federation of German Industry.

Ironically, the French Socialists have actually presided over more privatization, regulatory changes, and other reforms than their conservative predecessors. So a radical swing to the left would be a sorry unraveling of progress to date. Indeed, throughout Europe, the forces of globalization have gradually overcome ideology in the past few years, and the business climate is slowly improving. Now executives can only bite their nails and hope that the so-called new left doesn't undo it all.

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