Germany Moves Right – by Jacob Laksin

One of the ironies of the Obama administration’s experiment with European-style social democracy – complete with growing government, higher taxes, and increased regulation – is that it comes at a time when Europe is moving away from that very model. The latest example comes from Germany where, in a transformative general election this weekend, the voters of Europe’s largest economy decided that they wished to stay that way.

When the results were in, Germans had elected the so-called “black-yellow” coalition of Chancellor Angela Merkel’s centrist Christian Democrats (CDU) and the libertarian-leaning Free Democrats (FDP), while handing the country’s largest left wing-party, the Social Democrats (SPD), their worst defeat in the sixty-year history of the German Federal Republic. The election marks the ascent of a German government unbeholden to the anti-capitalist dogmas and factional loyalties that have stalled reform of the country’s unsustainably bloated welfare state under previous ruling coalitions.

Aside from Merkel, who won her second term as chancellor, the big winner in the election was the FDP. Not only did the party exceed pollsters’ expectations, but it will now have the chance to exert real influence over German economic policy. The FDP’s free-market friendly leader, Guido Westerwelle, a reformist who calls for lower taxes and for relaxing Germany’s rigid labor laws, bids fair to become the next foreign minister and vice chancellor. The party also is likely to get cabinet posts with a role in shaping economic policy.

The upsides, for Germany’s economic growth and for its global competitiveness more broadly, could be considerable. The FDP is often referred to as Germany’s “pro-business” party, but it is perhaps more accurate to say that it is the country’s pro-market party. Bucking the traditional European embrace of interventionist government, Westerwelle has long advocated a shift towards “less taxation, less government, and deregulation,” as he put it in a 2003 speech.

Nor has the FDP diluted its economic prescriptions as a result of the global financial crisis. If anything, the party has urged a more restrained response from governments, with Westerwelle warning that they should resist the temptation “to be a player in the market as well as the referee” – a position less-than-harmonious with the Obama administration’s approach of nationalizing troubled industries.

By contrast, the FDP wants the German government to do less. That would mean, most crucially, less regulation. One problem area concerns Germany’s cumbersome labor laws, which make it a challenge for businesses to hire and fire new workers, and thus feed a cycle of unemployment and business flight that prevents economic growth. A tax burden that drives away investment is another flaw of the current system. According to the Economist, the bureaucracy required to pay Germany’s corporate tax runs companies $28 billion a year. Facing such costs, it’s no wonder that German companies choose to relocate operations to Eastern Europe, India, and Asia. Not least, the FDP has called for the deregulation of state-run companies. Deutshe Bahn, Germany’s massively indebted railway operator, is a prime candidate for privatization, and has remained under government ownership thanks chiefly to the obstructionism of the German Left.

Of course, even for center-right government, scaling down the size of the state will not be easy. Germany’s powerful unions stand poised to block the new government’s reforms. But in pledging to forge ahead with her plans to cut taxes and deregulate the labor market, Chancellor Merkel has gotten a boost from the defeat of the SPD, her unruly former coalition partner.

In what the German press uniformly described as a “debacle,” the SPD was roundly thrashed at the polls. As recently as 2005, the SPD was riding high, with one of its own, Gerhard Shroeder, installed as chancellor. Four years on, the SPD cannot win enough support to be included in the governing coalition. In a particularly poignant measure of the party’s fall from prominence, even Schroeder’s former economics minister, Wolfgang Clement, voted for Westerwelle and the FDP in the weekend election.

The election result is more than a political setback for the SDP. It is also a blow for its vision of a perpetual welfare state and an activist government to manage the economy. Although the SPD did its level best during the recent election to stoke the class resentments that underpin that vision, urging higher taxes on the rich and a new tax for stock exchange trades, the message failed to galvanize enough voters.

That the election represented something more decisive than a temporary power shift was tellingly affirmed up by Merkel’s SPD rival, Frank-Walter Steinmeier, who lamented that the election result was “a bitter day for the social-democracy.” The old European politics are out of fashion, ousted by a platform of limited government, tax-cutting, and deregulation that seems closer to an American ideal.

So much the stranger, then, that the Obama administration has adopted the former. This divide has been evident for some time. When the administration passed its $787 billion package earlier this year, it urged Germany to emulate its big-spending ways. Instead, Merkel passed a smaller, more targeted, $124 billion stimulus. When the Obama administration then pressed for another round of stimulus spending, Merkel resisted. “If we want to actually strengthen the effect of such packages you simply have to implement them and not talk about the next one before the first has actually taken effect,” Merkel warned. Evidence suggests that Merkel had the better of that argument. While the US economy is still ailing, Germany has, however tentatively, emerged from the worldwide recession.

Germany’s election suggests that there is an economics lesson to be learned from Europe. It’s just not the lesson that the Obama administration seems bent on teaching the country.