Impasse In Berlin

The election brought a stalemate. Now will reforms grind to a halt?

There was no sense of change in the air. On Sept. 18, bathed in the sun of a late-summer day, Berlin residents flocked to the gardens and parks that line the Spree river to buy ice cream, stroll with children, or relax in swimsuits. As the first election results streamed in, several hundred watched a giant video screen set up outside the Reichstag. Some even applauded when it became clear that center-right challenger Angela Merkel and her Christian Democratic Union (CDU) had fallen short of a big victory -- and that Germany would be not be subject to a major policy shift. "I'm happy about the result," said Wolfgang Leopold, a 55-year old Göttingen resident, adding: "Merkel did not cut a good figure in the election."

Germany Inc. saw things differently, to say the least. Business had fervently hoped for a reform-oriented government led by Merkel. Instead, in a vivid illustration of the gap between the management class and the German people, the nation got no government at all. Neither of the main parties, the CDU and Chancellor Gerhard Schröder's center-left Social Democratic Party (SPD), won enough votes to form a coalition with their usual partners. At best, a government will emerge -- perhaps a "grand coalition" of both big parties -- that makes modest progress on reforms. At worst, there will be no progress at all.


For now, German executives are not panicking. "We all have to be patient for a few days and let the dust settle," counsels Hans-Peter Keitel, chief executive of Hochtief, Germany's biggest construction company. German managers know they can continue to operate the same way they have for years, working out backroom deals with workers to circumvent rigid union contracts, or shifting less-skilled work to nearby Central Europe, where labor is cheap.

Still, there was a palpable sense among businesspeople that Germans had missed a great opportunity. A new government might have inspired German companies, who have boosted profits by shifting production abroad, to begin investing in expansion and jobs at home. A resulting decline in unemployment, now at 11.4%, might in turn have inspired ordinary Germans to spend more. "We were hoping we would have a new spirit of change," says Rüdiger Günther, ceo of farm-equipment maker claas in the town of Harsewinkel. "This has not materialized -- just the opposite." Such a fresh beginning would have been an opportunity not just for Germany but for all of the euro zone, which is expected to grow just 1.2% this year. "It's extremely important for Europe to get back on track, and for that to happen, Germany has to get back on track," says former U.S. Ambassador John C. Kornblum, chairman of the German unit of investment bank Lazard (LAZ ). But the unmistakable signal from voters was that too much change is unwelcome.

Now, German industry is warning of consequences if reform comes to a halt. Gildemeister, a maker of precision lathes based in the northwest German city of Bielefeld, reported that dozens of customers postponed orders for several weeks to see what kind of government emerges. Carmakers warned of job cuts if long-term stagnation ensues. "Everyone is waiting to see what happens next," says Hans Seidl, chairman of the supervisory board of Bavaria's Vinnolit, a maker of polyvinyl chlorides.

Experience shows that German companies will cope. Already, many have opted out of the employers' associations that negotiate industrywide wage agreements with unions. Fully half of the members of the German Engineering Federation, the main lobby group for machine-tool makers, have chosen to negotiate directly with workers, a course that exposes them to the wrath of unions but often allows more flexible agreements. Although the official workweek for metalworkers is 35 hours, many companies have cut deals to reinstitute a 40-hour week. Also, companies are taking advantage of easy access to low-wage countries such as Slovakia and Poland. Half of all businesses with more than 200 employees planned to invest abroad this year, according to the Munich-based ifo Institute for Economic Research. That means German companies aren't creating jobs at home, they are eliminating them wholesale. Industry has cut more than 1 million jobs since 1995, ifo says.

In what seemed like more than just a coincidence, giant Siemens (SI ) chose the day after the election to announce 2,400 layoffs in Germany at its troubled Business Services unit. Siemens ceo Klaus Kleinfeld denied that the timing of the news was political. But, speaking to reporters on a conference call, he added: "Those of us who are exposed to global competition every day know very well that we can't afford to stand still. Reforms have to make progress, and every government has to understand that."

Some longtime political observers are pinning their hopes on a grand coalition, reasoning that progress is only possible if the major parties are forced to cooperate. The CDU and the SPD could probably agree on eliminating some subsidies and tax shelters. But prospects for vigorous reform, particularly of labor rules that make layoffs difficult and discourage hiring, look dim. "Something will happen, but probably not enough and not quickly enough," says Martin Korbmacher, head of Credit Suisse First Boston in Germany (CSR ).

The main parties will not settle for a major linkup until they've exhausted all prospects of building their own majorities with the smaller parties. The problem is that bickering could prompt one of the coalition partners to withdraw, causing the government to collapse. This is not what the world expects of Germany, says Manfred Diederichs, owner of Dirostahl, a foundry in the northwest city of Remscheid: "It's like Italy used to be."

By Jack Ewing in Frankfurt, with Gail Edmondson in Berlin and Katharine Schmidt in Stuttgart

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