The Franco-German Alliance Against Market Freedom
Since the Second World War, the deep-seated enmity between France and Germany, whose governments waged war against each other thrice in less than a century, has been exhausted.
Restrained from resuming their fratricidal tendencies by the bonds of the corporatist European Coal and Steel Community, eventually superseded by the European Union (EU), the countries no longer contemplate warfare as a means of settling bilateral disputes. Rather, these two founding members of the EU’s original six have cooperated quite closely in forging today’s common market encompassing 450m people, a twelve-country currency union and a nascent superstate.
As their markedly similar postwar social market systems reel from the onslaught of globalization and the economic consequences of the rampant interventionism championed by its architects and stewards, the Franco-German axis has been reinvigorated. Unwilling and unable to scrap the welfare state, the political establishments on both sides of the Rhine are jointly mounting a tenacious offensive against all suspected assailants, domestic and foreign alike.
France’s postwar interventionist architecture is alive and well. Government spending comprises half of the economy. Though down from levels in previous decades there are roundabout a thousand firms in which the state boasts a controlling share. One out of five employed citizens toil on the public payroll. Sclerotic labor markets, typified by the 35-hour workweek, are jealously guarded by militant trade unions.
Despite a reprieve from 1997 to 2000 when 1.6m jobs were created (ten times the amount generated during the two preceding decades) amid America’s credit-induced bubble, unemployment is again edging up, approaching 10%. In fact, a net hemorrhaging occurred last year, as 67,000 jobs were lost (although many thankfully were public sector). A bevy of income, payroll and indirect taxes help to underwrite increasingly indebted, unsustainable, and unwieldy pay-as-you-go social security system, state-funded health insurance system, and assortment of other government handouts.
In Germany, the situation is even worse. Anemic growth, less than half the average posted by the EU as a whole, has characterized the post-reunification period. Excluding the ten eastern and central European countries that joined the "Ever closer union" May 1, German per capita income would actually fall below the Union’s average.
Unemployment remains a chief concern, as the tally breaches double digits at 10.5%. Hemmed in by restrictive hiring and firing laws, excessive labor influence over company decisions and subjected to confiscatory and Byzantine taxation schemes, German firms find business conditions inimical to commerce. Accustomed to Ludwig Erhardt’s postwar soziale Marktwirtscharft—Europe’s social market template and the Bismarckian welfare apparatus before it—Germans are loath to part with government provision and administration of fallaciously dubbed "public services" and a robust social safety net.
Moreover, reunification has taken its toll. Since 1989 over $1.5 trillion has been transferred from West to East, to overcome the economic deterioration that befell the latter while shackled by communism. Unsurprisingly, the imposition of the West German social market and transfer of government-directed subsidies failed to have their desired effect; unemployment in the East is twice as high as the West and economic growth has been even slower. Ironically, for beleaguered East Germans, they junked one interventionist straitjacket only to don another.
Since its debut, German Chancellor Gerhard Schröder’s highly touted Agenda 2010, a program of health, welfare and unemployment transformations have featured more substance than style. Unveiled in March 2003, the reform package was crafted to jumpstart an anemic economy and the Social Democratic Party’s (SPD) poll ratings, which had been receding since its narrow victory in the September 2002 general election.
To his credit, Schröder’s SPD-Green parliamentary governing coalition implemented a few positive measures in 2003. Thanks to Christian Democratic support in the Bundesrat or upper federal chamber, approximately $18bn worth of tax cuts have been implemented in 2004 and the Meisterzwang that regulates artisans’ qualifications was loosened a bit. Firms employing less than ten workers (previously five) are now exempt from the most stringent regulations governing termination. Beginning in 2005 unemployment benefits will not be available indefinitely nor can redundant laborers refuse job offers without incurring a cut in entitlements[i].
Nonetheless, these token reforms, approved only after protracted parliamentary carping, scarcely scratch the surface of the daunting task ahead. Firing employees and the accompanying litigation often takes as long as two or three months in Germany compared to the two to four weeks in relatively liberal Anglo-Saxon countries like America and Britain.
State-inflicted distortions in the French and German labor markets become apparent when one notes that as demand burgeons in these countries employers actually confront severe labor shortages, despite high jobless figures. In 2000, for example, when vacancies in both countries reached all-time highs, unemployment stood pat.
Relaxing statutory restrictions on opt-outs from industry-wide wage accords, a fixture of German industrial relations, were shelved by the SPD. Numbering close to 60,000 these corporatist concords negotiated by trade unions and employers are notoriously generous to the former on one hand and limit individual firms' ability to adapt to its unique business environment on the other.
Furthermore, Schröder has declined to alter the Mitbestimmung, or co-determination of company decisions exercised by management and labor jointly. The Workers’ Representative or Betriebsrat is available to a staff of more than five and wields considerable influence over performance bonuses and employee assignments.
In the same vein, the German Federal Labour Agency, the entity charged with placing redundant workers into employment, has not improved. Another example of German corporatism—the agency allots equal shares on the federal and regional governing boards to labor, business and government personnel—this bureaucratic creature is inefficient at best. Last January its head was summarily sacked for his dodgy dealings with contractors and extravagant expenditures (especially office furnishings), which did not mesh well with the 6.5% of gross wages paid by both employer and employee and appropriations from general taxation that fund the agency’s $66bn budget.
Taking it to the street
Not to be outdone, France launched its own reform package in mid-2003, "Agenda 2006", spearheaded by the current Prime Minister, Jean-Pierre Raffarin. Mirroring the Teutonic raft of proposals, the Gallic version seeks to reduce unemployment benefits, address public pension and healthcare financing, liberalize labor markets and cut taxes.
From the outset, the center-right government was able push through a modest reform to the country’s public retirement system, requiring many state employees to wait 40 and later 42 years, rather than the previous 37.5, to draw a full pension.
Raffarin’s ability to outlast the barrage of public demonstrations was indeed impressive. The last centre-right prime minister who attempted to tinker with pensions as part of a broader bid to slim a bulging budget deficit in 1995, Alain Juppé, encountered fierce opposition, which spilled over into a defeat in the 1997 general election. France’s trade unions, especially the politically intimidating and socially influential public-sector unions do not hesitate to spill out onto the streets to defend their privileges as agents of the state.
Notwithstanding Raffarin’s intestinal fortitude, France’s overly generous social security system is far from being on sound footing. The average pensioner enjoys an income almost exactly on par with a working compatriot. Dubbed répartition, current workers foot retirees’ payouts to bolster solidarity between generations, the philosophical underpinning of the pay-as-you-go system. Nevertheless, as pensioners’ ranks swell and the number of laborers dwindles, the system will succumb to insolvency. Already running billion dollar deficits annually, the social security time bomb has yet to be addressed by the French government.
Similarly, France’s state-run health insurance system is a fiscal albatross and a moral hazard. The system defrays about three-quarters of medical costs (the rest covered by private firms), encouraging the French populace to visit the doctor even for the slightest ailment. Although the health system’s service is quite good, but grossly overused, the state-administered insurance system is expected to post a deficit of $15.5bn this year and almost $30bn by the end of the decade[ii]. Raffarin has not even tabled proposals on this issue, much less scrapping the 35-hour workweek, a policy that is estimated to cost the French economy billions of dollars in lost output per annum.
The introduction of a shortened workweek in 1999 precipitated other interventionist quagmires, including severely complicating calculation of the minimum wage by posing the question of how to implement an automatic 11.5% rise in remuneration for French workers who were to receive the same pay while working for less hours. To alleviate the cost pressures on employers and employees the state has overtly subsidized both parties, all at the cost $16bn per year. In July, the French minimum wage will rise by 5.8% and the full 11.5% increase will be phased in with a concomitant cessation of payroll subsidies a year thereafter, unfortunately leaving both flagrant étatist measures in place.
Taken together the French and German governments’ attempts at overhauling the welfare state have halted as the meager reforms undertaken have yet to materialize into brisk and sustained economic growth. Rather, Raffarin and Schröder’s parties have been stung by voter restiveness, with the Frenchman’s center-right party being all but displaced in every French regional election in late March. His Teutonic counterpart was drubbed in June’s European Parliament elections garnering only 21.5% of the vote, the worst performance for the SPD since 1949.
In France, the backtracking is evident, as the country’s electorally vulnerable president, Jacques Chirac, ordered his government to table a $15.4bn plan to tackle high (especially youth) unemployment and increase public housing. Crafted by the "super-ministry" of "social cohesion" (another poll-dictated idea) the program will provide training to 800,000 unskilled youths, create 300 job centers and build 40,000 new low-income housing units. This brilliant plan has been advocated despite the fact that French welfare expenditures—second only to Sweden in the EU—have actually seen youth unemployment rise and long-term unemployment triple in the past 15 years[iii].
Dogged by declining poll numbers throughout their reform jaunt, the ruling parties in each country have attempted to overshadow, if not forestall their paltry efforts, by blaming other individuals or organizations, domestic or foreign, for their countries woes and actually have taken positive steps to protect their enfeebled economies from leaner competition.
The involuntary confiscation of property practised by governments is inimical to liberty and economic growth, no less so when businesses are compelled to foot the bill. Compulsory contributions induce German and French employers to pay non-wage payroll charges approaching half of gross wages. The simple German corporate tax level is about 39% and France’s 34%.
Compare these exorbitant rates to Ireland (12.5%), Latvia, Cyprus and Lithuania (all 15%), Poland and Slovakia (19%), or low-tax leader Estonia, which waives levies on reinvested earnings. Even Austria, heretofore a bastion of corporatism, will reduce the basic corporate tax level from 34% to 25% starting in January in a so far successful bid to market the country as an enterprise-friendly and skill-fertile gateway to the low-wage, low-tax countries of Central and Eastern Europe.
Hamstrung by high wages and high taxes—two-third of the world’s tax literature originates in Germany—politicians are lambasting their eastern and southern neighbors any chance they get. When the president of the German federation of chambers of commerce and industry suggested earlier this year that domestic firms should consider relocating operations to Eastern Europe instead of waiting for government reforms to arrive, his advice was promptly condemned as "unpatriotic" by Schröder, who has apparently been following the Kerry ("Benedict Arnold companies") campaign.
In late April 2004, the chancellor’s finance minister, Hans Eichel, labeled the commerce—accommodating tax rates as "dumping" and threatened to deprive the ten new Eastern and Central European entrants into the EU their share of $397bn in regional aid slated to be doled out between 2007 and 2013. Although Eichel is right to try to limit his country’s contributions to the EU budget (Germany is the Union’s primary paymaster), especially on patent subsidies, his linkage to corporate taxation smacks of a protectionist bogey.
Reeling from high-profile business defections to its south, Bavaria’s government has been accused of inveighing against advertisements running in the province that tout Austria’s attractive business environment.
Backed by France, the German government recently pressed for an EU-wide minimum corporate tax rate—mooted at 20%. Claiming that EU regional aid bankrolls Eastern Europe’s low tax rates Eichel disingenuously assured the EU leaders that a minimum tax rate, "would in no way stand in the way of competition between member states." Fortunately the new EU Constitutional Treaty, hashed out by member state heads of government during the third week of June, preserved unanimity on all tax decisions, thereby preserving rate disparities across Europe.
. . . and spend
As members of the EU’s monetary union, Paris and Berlin are obliged under the Stability and Growth Pact (SGP) to prevent annual budget deficits from exceeding 3% of GDP and the sovereign debt-to-GDP ratio eclipsing 60%. The German government insisted that budgetary rigor and sanctions mechanisms be explicitly enshrined in the 1997 Maastricht Treaty as its price for junking the country’s beloved D-Mark in favor of joining a new currency with chronic budget busters like France and Italy.
Ironically, the country most adamant about fiscal austerity has violated the pact not once but three years running (including 2004). France has been commensurately profligate, failing to balance its last 23 budgets and breaching the 3% plateau every year since 2002. Like Berlin, Paris will certainly do so again in 2005. The aforementioned deficit in France’s public health insurance system coupled with an upsurge in defence spending at Chirac’s urging accounts for the bulk of the fiscal shortfall. In 2003, Paris registered a deficit of 4.1% of GDP and the stock of government debt climbed to 63% of GDP—the worst deterioration of state finances in the EU.
After three successive years of above-3% budget deficits, France and Germany were slated, pursuant to the SGP’s Excessive Deficit Procedure, to lodge interest-free deposits of approximately $3.6bn and $4.8bn, respectively, at the European Commission which would be converted into a fine the following year and distributed to member states with sounder finances on a pro rata basis. Unapologetic in their transgressions, France and Germany’s finance ministers managed to suspend the procedure in November 2003 over dinner with their fellow exchequers in the European Council, many of whom are poised to breach the SGP themselves.
On July 13, the European Court of Justice will deliver its verdict on whether member states illicitly froze the sanctions mechanism. Pitting the Commission against the French government, Hearing C-27/04 Commission v. Council (heard April 28, 2004) and the subsequent ruling will greatly determine if Germany and France’s flouting of the rules underpinning the European monetary union will spell the death knell of the embattled and much-derided stability pact[iv].
Not satisfied with emasculating the sanctions mechanism, the German government, supported by Italy, Poland, and Greece, all impending fiscal miscreants under EU rules, managed to dilute the clauses governing sanctions in the new EU Constitution. In effect, the European Commission—the guardian of EU treaties—will continue to merely determine when countries contravene the SGP and posit enforcement responsibility with member states (finance ministers). (The SGP and Excessive deficit procedure will explored fully by this author in an upcoming article).
Cheap Credit, Now!
Since leaving the SGP in abeyance, France has complemented Germany’s constitutional assault on the pact by publicly railing against it and enlisting other EU countries to do likewise. In May, Britain’s Chancellor of the Exchequer joined his Franco-German counterparts in penning a letter to the Financial Times advocating relaxing sovereign debt strictures and adjusting fiscal targets to individual structural and cyclical conditions in each member state.
In the same vein, Sarkozy joined Italian Prime Minister Silvio Berlusconi in early June to blast the European Central Bank’s (ECB) monetary stance. Not content with an abysmally low borrowing rate of 2%—an historic European nadir—the two politicians have argued for further interest rate cuts and criticized the bank’s cardinal mandate to ensure price stability over stoking employment.
The critique that the ECB (ironically headed by a Frenchman) impairs economic growth—propagated by European politicians and economists and regurgitated by journalists—is quite convenient for it pins blame on the ECB for member state woes (particularly Franco-German ones) rather than the growth-inhibiting social market systems. Berlusconi has gone one step further in recommending the creation of a "political committee" to guide the central bank’s monetary policy—a proposal as unlikely to be adopted as it is to solve France and Germany’s problems.
Bailouts, takeovers and regime change
Alongside Paris and Berlin’s efforts to junk the stability pact, imprint a uniform tax rate across the EU and demand mean credit, the duo are seeking to halt the decline of their industrial sectors by fashioning national champions. France was naturally the first to revive this concept, as the country’s industrial policy going back to Colbert in Louis XIV’s court has consistently aimed at employing state resources to turn vibrant domestic firms into internationally competitive outfits, and to ensure that infirm ones remain French instead of being acquired by a fitter foreign group.
Proclaiming that, "It is not a right for the state to help industry. It is a duty." French finance minister Nicolas Sarkozy hammered out a deal with the European Competition Commissioner, Mario Monti, to rescue Alstom, the French engineering group that employs 75,000 workers. Although the finance minister substituted a $900m loan the ministry lended the domestic firm last autumn for an equity stake roundabout 31.5%, Alstom will have to make only minor disinvestments, leaving its core and politically sensitive competencies intact.
The Paris-Brussels accord on the state bailout has spilled over into other areas, notably takeovers. The German engineering group Siemens—keen on acquiring Alstom’s turbine division—was miffed by the deal. Emboldened by the new lease on life, Alstom’s chairman refused to attend a June 1 Franco-German political summit alongside his Siemens counterpart, helping to nix a gathering that would follow-up the announcement of joint government strategy to forge European companies capable of withstanding international competition.
On May 13, Schröder and Chirac had proclaimed their intention "to formulate a joint industrial policy aimed at creating a framework for mergers and joint-ventures between major German and French corporations." From the outset the "national champions" strategy has been an exclusively French undertaking, as the country’s finance ministry pushed the Franco-German pharmaceutical company Aventis into a hostile bid from French rival Sanofi-Synthélabo, despite the prospect of a friendly offer from Novartis, a Swiss group.
Paris’s blatant determination to prop up a domestic firm even at the expense of German companies has rankled Chancellor Schröder, who has characterized Sarkozy as "extremely nationalistic" and deeming his sideling of Siemens as "annoying." That is not to say that the Paris has been entirely uncooperative. In November 2003—the same week the SGP was frozen—Germany, with tacit French approval, gutted line-by-line an EU-wide takeover directive that would have removed national barriers to cross-border takeovers, something Berlin could not accept.
Occasional rows aside, the German and French governments have coordinated their positions closely, especially on the composition of the European Commission, the EU’s executive body. Rebuffed in their attempts to plant Belgian Prime Minister Guy Verhofstadt, a continental-minded politician viewed as sympathetic to Franco-German plans for a regulations-laden Europe, as the Commission President, Messrs. Chirac and Schröder acceded to the compromise candidate, Portuguese premier José Manuel Durão Barroso. No sooner had the free-market oriented (relatively speaking) and Atlanticist Barroso been confirmed, did France and Germany publicly demand important economic portfolios in the new Commission that will take office this autumn.
While Barroso cannot begin allocating jobs until later in July, Paris is eager to land the competition dossier, as that office has routinely arrested France’s state-directed bailouts, mergers and protection of monopolies benefiting the likes of Crédit Lyonnais, Bull, the leading French computer-maker, Alstom and government-owned Electricité de France.
Germany covets the new "Super Commissioner" for industrial and economic affairs job. Essentially a Commission vice-president, the post would oversee all economic portfolios. At the same time, Sarkozy has called for the 12 nations that use the Euro to elect a permanent chairman for their informal "Eurogroup" of finance ministers to streamline economic coordination and serve as a powerful counterweight to the Commission, the ECB, and non-Euro member states.
The leitmotiv of the Franco-German personnel proposals is clear. With their nationals entrenched in Brussels, Paris and Berlin’s proxies can press the countries’ agenda on tax harmonization, monetary policy, budgets and competition and pre-empt proposals hostile to their interests at the EU level. If two of the continent’s premier economic laggards were to acquire their desired portfolios, what little creditability EU leaders’ have to transform the Union into the most competitive marketplace in the world by 2010 would be dashed completely.
Dark clouds, a ray of optimism
Since late March, France’s tentative steps toward market liberalization have slowed to a crawl. Nicolas Sarkozy, the rising star in French politics who was named finance minister in April, has spent more time artificially bolstering demand and cultivating "national champions." Threatened with mooted legislation mandating price reductions, French retailers and their suppliers agreed on June 17 to cut prices on many items beginning with a 2% reduction in September and another 1% in January, just one sign of resurgent dirigisme.
"France will not be a big economy if it just has banks, insurers and services. We also need industrial groups," is a constant refrain from the finance minister, who made victorious stops to some of Alstom’s rescued factories.
Unfortunately, Sarkozy’s ambition to replace France’s immobilisme (inertia) with volontarisme (shaping one’s destiny) by reining in state spending and scrapping the 35-hour workweek are unlikely to be enacted given serious political and economic constraints. Anxious to succeed Chirac (who is equally determined not to see it happen) as president in 2007, the finance minister must rely on every short-term trick in the government’s playbook to sustain domestic demand, whether through state spending, protection of national firms or altering prices or wages by fiat. Sadly, as the most economically liberal minister of the center-right French government Sarkozy is still more wedded to state interventionism than any contemporary in Tony’s Blair’s Labour cabinet[v].
In Germany, Agenda 2010 is politically unpopular and the segments of society that stand the most to benefit—businesses—have yet to see reform tangibly improve their lot. Schröder has vowed to push his reform package onward, though admitting to party supporters at a June 15 rally—in the unoccupied parliament building of the defunct East German regime of all places—that not all facets of his plans were the "right and appropriate answer."[vi]
The chancellor’s replacement as SPD chairman, the trade union-palatable Franz Münterfering, has indicated that original proposals concerning higher corporate taxation, a minimum wage, and a new state health insurance system portend a reversal, if not abandonment of Agenda 2010. The fact that not a single economist sat on the Hartz commission, a body that advised the government in 2002 on how to boost job creation and tackle the sclerotic labor markets, testifies to the German political establishment’s inability to even comprehend the nature of the country’s economic ills.
On the other hand, adherents to the Austrian School can take heart that some labor unions employing German manufacturing are beginning to appreciate the unremitting burden state interventionism places on domestic competitiveness. In late June, approximately 4,000 Siemens employees agreed to abandon the country’s own cherished 35-hour workweek to prevent the engineering firm from shifting at least half of their jobs to Hungary. Quite obviously only market participants—not the state—will salvage liberty and the country’s standard of living.
As for France, at least President Chirac admitted on Bastille Day a year ago "We have lived for too long with the idea that the state was always right," adding, "We must move out of this impasse . . . the state cannot decide everything."
[i]"Sick man walking." The Economist. Dec. 18, 2003.
[ii] "The price of popping pills." The Economist. May 13, 2004.
[iii] "French government unveils ambitious five-year plan to narrow deepening social divisions." Financial Times. July 1, 2004.
[iv]"Date set for crucial euro pact ruling." EU Observer. June 28, 2004.
[v] "France’s national champions." Financial Times. June 1, 2004.
[vi] "Schröder rallies supporters with election pledge." Financial Times. June 15, 2004.