For Schroder, Bad News, Good News?

Election losses may help Schroder get his party behind reform

Peter Muller led his victory entourage like a conga line through the cobbled streets of Saarbrucken's bar district. "Peter! Peter!" they chanted. Hoots. High fives. Fists in the air as about 50 people snaked around a fountain and between outdoor tables crowded with diners and drinkers enjoying a late-summer night. The exuberance was understandable: Muller had just led the center-right Christian Democratic Union party to statewide victory in the German state of Saarland for the first time in 15 years. And power tasted even better than the cold beer.

The CDU's return to power in Saarland, a region of dying coal mines and shuttered steel mills that is normally a Socialist fortress, is a grim omen to German Chancellor Gerhard Schroder. It came on the same day that support for his center-left Social Democratic Party (SPD) plunged in elections in the eastern German state of Brandenburg. Together, the elections signaled grave voter disappointment with Schroder and his lurching attempts to remake the German economy. Polls show more bad news is in store as Schroder's policies face a battery of state and local elections in the coming months. The SPD already lost firm control of the upper house of Parliament following Hesse state elections in February. The Saarland loss further weakens the party's power in the upper house, which must approve bills that affect state finances.

COMPROMISE. But the vote wasn't an outcry against economic reform. It may have even marked a kind of progress in Germany's stumble toward an economy that can compete more effectively with the U.S. and Britain. Schroder could use the election results to discipline his own unruly coalition and hammer out a compromise with the opposition. With economic growth picking up, skittish voters might be more willing to accept a little short-term pain in return for long-term economic well-being. "The next two months are dramatically important for [Schroder's] political future and authority," says Michel Friedman, a leader of Germany's Jewish community who serves as an adviser to Muller. "It's his last chance."

When it comes to reforming the economy, Schroder and the CDU agree on what needs to be done--budget cuts, lower taxes, and measures to prevent the collapse of the pension system as Germany's population ages. But they differ on who should benefit and who should pay. Besides finding a middle ground with the opposition, Schroder needs to win the support of the SPD's left wing, which is deeply suspicious of any change that seems to benefit the wealthy or that trims social welfare. Schroder must also sell his plan to a German public confused and frightened by change.

Still, Saarland's voters, usually resistant to reform, signaled that they are open to change by choosing Muller. The 43-year-old judge, who will become Saarland state prime minister, belongs to the CDU's progressive faction. In a state where an antique coal cart decorates the back lawn of the Parliament building, Muller says he will let the coal industry fade out of existence and instead concentrate on modernizing the Saar economy. Although he's vague on specifics, Muller has made it clear he won't lead Saarland back to a bygone age of generous subsidies and guaranteed jobs.

Muller's policies and campaign contrasted sharply with those of his SPD rival, Reinhard Klimmt, the incumbent Saar prime minister. Klimmt succeeded and was the protege of "Red" Oskar Lafontaine--former SPD national chairman, hero of the party's left wing and Finance Minister in Schroder's government until he left after clashes with the more moderate Chancellor. On the hustings, Klimmt made it clear that he wanted to keep propping up the coal industry with subsidies. And he publicly attacked Schroder's plan to cut $16.3 billion from the national budget. He accused the Chancellor of betraying SPD principles of social justice and even called for restoration of the wealth tax.

BICKERING. Those policies weren't what most voters wanted. In the Sept. 5 elections, Klimmt's party scored 44.4% of the vote. Muller's CDU won 45.5%--enough to control the state Parliament. Apart from rejecting Klimmt's radicalism, Saarbrucken locals also voiced dissatisfaction with Schroder's zigzag course since taking office last year. First, his government rolled back measures that made it easier for small businesses to fire unwanted workers. Then, Schroder said he wanted to limit increases in pensions. Bickering broke out in the coalition, which includes the environmentalist Green Party, and Schroder's approval rating plunged. "The Red-Green coalition lost its sheen very quickly," says Volker Giersch, an economist who is deputy director of the Saarland Chamber of Commerce.

In the wake of the Saarland debacle Schroder seems to be keeping his nerve. He vows to press forward with unpopular budget cuts. In fact, the crisis may actually help muffle the SPD's left wing. They're likely to realize that party survival is at stake. "Certainly, some things should change," acknowledges Michael Riedel, district leader of the union that represents Saarland's miners. "When we make demands, we've also got to say how they're going to be financed."

Schroder can also argue now that the SPD has no choice but to compromise with the CDU since the opposition can block major legislation in the upper house of Parliament. For example, the CDU wants tax cuts to provide more relief to midsize companies that have traditionally been the motor of the German economy. Schroder could agree to such a measure. "All the parties recognize that reform is needed," says Ulrich Beckmann, Deutsche Bank's co-head of euro-zone research. "I'm optimistic."

Still, the next few weeks are fraught with risk as Schroder faces state or local elections in states including Thuringia, North Rhine-Westphalia, and Saxony. Setbacks in Saarland and Brandenburg are a stern warning for Schroder and his followers. More defeats could dangerously weaken the SPD's ability to control legislation.

Most Germans treasure social stability and are famous for their conservative approach to money. Schroder needs to convince them that his reforms are consistent with those values. If not, his "New Middle" will be a lonely place.

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