Will the CDU Scuttle Germany's Best Chance for Reform?

For years, Germany's center-right Christian Democratic Union (CDU) has pressured Social Democratic Chancellor Gerhard Schröder to bite the bullet and move ahead with crucial labor-market, public-pension, and unemployment-benefit reforms -- despite the opposition of his union supporters. Now that Schröder is finally building momentum for a reform package known as Agenda 2010, the CDU under the leadership of Angela Merkel is poised to play a pivotal role when the German Parliament votes on the measures later this year, since the CDU controls the upper house. If the Christian Democrats actually help Schröder push the package through, Germany might have a shot at fixing its structural problems, and the psychological impact on Europe could be dramatic as well.

Yet in the past few weeks, the CDU has been facing a backlash in its own ranks to rival anything mounted by the unions against Schröder. The issue is the country's 5 million tradespeople, or Handwerker, from bakers to carpenters to hairdressers and other service providers, who account for 10% of gross domestic product. Protected from competition by almost medieval German traditions of apprenticeship and licensing, they rival the unions in their rigidity and opposition to change. Yet they represent a powerful and loyal constituency for the CDU and its Bavaria-based sister party, the Christian Social Union (CSU). That's posing a dilemma for conservative proponents of reform, led by Merkel.

Besides loosening job protections, Schröder and his Green Party coalition partners want to dismantle regulations that require Germans to earn the title of Meister before they can be self-employed in any of 94 licensed trades. It takes years of schooling and apprenticeship to become a Meister. Economists agree that the rules can artificially raise prices to outrageous levels and discourage job creation. Indeed, the regulations are one reason the self-employment rate in Germany, at 9.3% of the workforce, lags the European rate of 12.3%.

The question now is whether Merkel and other CDU leaders will put the national interest over the demands of the Handwerker. It's a tough call. On June 3, Merkel appeared before a crowded gathering of Handwerker in Berlin and promised to stand by them. That's a good short-term policy for maintaining their votes -- and it could help Merkel as she tries to gain support to be the party's candidate against Schröder in the next election in 2006.

But if Merkel gives in to the Handwerker and blocks the proposed deregulation, she could undermine the whole reform process -- dealing the German economy another body blow. "This is a very bad sign," says Thomas Mayer, chief European economist at Deutsche Bank (DB ), speaking of the CDU's opposition to Handwerker reform. Merkel could also open the CDU to demands from other special interests that resist liberalization -- such as lawyers, doctors, and accountants, whose clout is enormous. Special-interest politics "will slow down the whole reform process," predicts Carsten Klude, chief economist at Hamburg-based private bank M.M. Warburg.

More delay is the last thing Germany needs. The budget shortfall is growing by the day, and unemployment, now almost 11%, is still on an upward trend. Analysts say Schröder's government probably won't survive unless it can claim some credible reforms by yearend. But German voters may not want to reward the CDU if it seems to be playing the role of spoiler. Schröder has one tough job: reforming Germany. Merkel's job may be even tougher: deciding whether to defy her constituents and aid her political enemy.

By Jack Ewing in Frankfurt

Edited by Rose Brady

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