Germany Tries Again

Article excerpt

German voters want tax cuts. Can Merkel deliver? Sean O'Grady assesses the chances of her delivering radical reform

Is this a new beginning for Germany? She has already emerged from recession, well ahead of Britain, and in their recent elections Germans voted for a decisive break with the past, backing in record numbers the Free Democrats, the nearest thing that country has seen to a true Thatcherite movement - liberal-minded, business friendly and, above all, tax cutting. The FDP Leader, Guido Westerwelle, has been rewarded with the foreign ministry, and his party is well represented in cabinet: his colleague Rainer Brderle has gone to the economy ministry. The balance of power in Germany politics has shifted.

Yet Chancellor Angela Merkel, whose no-nonsense style helped her re-election, carefully ensured that the key finance ministry job, the more senior of the two economics positions, was retained for her own party. The man she has placed there, Wolfgang Schuble, is a formidable fiscal conservative. Indeed, for him, looking after the federal republic's books is almost a family duty; Mr Schuble is married to an accountant, is the son of a tax adviser and worked in a state tax office before entering politics.

But will he want - or even be able - to keep his coalition's promise to cut 24bn (22bn) from the nation's tax bill? Will he put tax cuts before prudence?

Mr Schuble has been around for a long time: he served in Helmut Kohl's administration a quarter of a century ago. Proud conservative though he may be, his devotion to fiscal rectitude has made him sceptical about the tax cuts promised by the Chancellor - and, even more enthusiastically, by the Free Democrats - during the election campaign. Indeed, Mr Schuble was on record during the election as saying that Mrs Merkel's plans were unaffordable.

Chancellor Merkel's plan for 24bn in tax cuts, to take effect from 1 January 2011, is a straightforward splitting of the difference between her pledge of 15bn in cuts and the FDP's aim of a 35bn reduction in the tax burden. It is thus higher than Merkel's original proposals, which Schuble had labelled impractical. The total stimulus would equal 2.6 per cent of Germany's GDP, making it by far the boldest in Europe. It is all a little ironic, given that the German government has in the past accused the UK of "crass Keynesianism".

From next year the new coalition will implement a 14bn package of tax reliefs that had already been agreed by the outgoing government. Additional corporate and inheritance tax reforms, and changes to child allowances, will take the total tax relief for 2010 to 24bn in 2011 - 1 per cent of GDP.

Low to medium-income households and families with children are set to benefit most. Corporation taxes will be eased, and inheritance tax rules are to be simplified to help family-owned businesses. Next year child benefit will be uprated and the child tax allowance will rise. More tentatively, social security contributions could go up, and health-care funding could shift away from levies that are proportional to income and partly paid by employers, towards flat-rate health-insurance fees for individuals. Care for the elderly could be funded partly through individual private savings accounts, instead of purely through taxation.

The aim of all this is, in true Laffer-curve style, is to stimulate enterprise and push Germany's growth rate back up. It comes against a background of an ageing population, escalating heath and social costs, but continued domestic hostility to immigration. …