European 'Restructuring' Underway

Interesting detail in MS's pan-European equity analysts’ macro survey:

Our main takeaways from this first survey are, first, that Corporate Europe is undergoing heavy restructuring and, second, that deflation is already widespread for large corporations. Let’s get into the details and add some sectoral colour to the picture.

As for business conditions, the balance of opinion -- that is, the net percentage of observations pointing to an improvement versus a worsening -- came out clearly negative at minus 40%. Half of our sample considered that they were unchanged, compared to the previous quarter. Within the other half, only one sector, media/entertainment/publishing, indicated some improvement. For capex plans, a majority of companies are reported to intend to cut them, the balance of opinion standing at minus 30%. Stability was more pronounced than for business conditions (60%). Only the retail sector indicated an upgrade of its capex plans.

For headcounts, an overwhelming 70% majority mentioned intentions to cut payrolls further, the balance of opinion standing at minus 68%. Only the healthcare products sector appeared ready to hire employees. Interestingly, the technology sector seems to have already undergone the bulk of its restructuring.
Source: Morgan Stanley Global Economic Forum
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This is No Solution

The UK government is rumoured to be preparing laws to combat 'ageism'. It is pretty easy to understand why this kind of law could come forward at this time. And of course I am against any kind of discrimination against old people. But in the context of employment law, this would seem to me to be a minefield. In a market economy there is no way you can effectively compel an employer to accept older workers. To give an example, my wife works for a large German multinational. In general the salaries and social conditions have been good, far better than those offered by local Spanish companies. But two or three years ago everything started to change, little by little the working conditions are deteriorating. I keep explaining to her, this is what flexibilisation and restructuring mean, your firm will never again 'improve' conditions. She is a sentimental person and has been loyal to her company and dedicated to her work. But every day she is now more detached, more indifferent. This is the other side of the 'flexibilisation' coin. She sees irregular and unjust treatment of the younger workers on the 'new' contracts, and she doesn't like what she sees. Now her case is different, since, having heard so much about all this at home, she is starting a new career, she is studying alternative medicine, and one day will be a kind of 'doctor' (this means that I, who try never to go to a doctor, am effectively trapped: remember my son is a conventional medic). So she would welcome some 'downsizing'. But her case is not typical in Spain.

And what is the latest proposal on the table of her local management? Recycling all those employees with more than 25 years of service. What does 'recycling' mean here? Easing them out. Now all of this is fine and normal in one sense. We do need more dynamic labour markets. 25 years in one company is too much for anyone. People should begin second careers mid-life. I agree. But the reality of carrying out such a transformation in a rapidly ageing society seems less clear. And here there is certainly a mismatch between the collective social interest that we all work to 70 (or is that 75), and the specific interest at firm and company level, which is to have a young and 'flexible' workforce.

How the circle will be squared (or even if it can be) I don't know. What I do know is that legislation to oblige companies to retain older workers won't work: in a globalised world they can just change country. In addition, if you don't allow younger workers good opportunities to enter then they will change country (remember the point about rising emmigration among young, educated Germans). Bottom line: we may have to accept second 'downwardly mobile' careers in the 50 - 75 age group, with lower salaries, and worse conditions. This seems to be the Japanese experience. Big question: what does this do to the life cycle theory of consumption, and what will be the macro implications?

Proposals to end age discrimination at work prompted warnings of an explosion of legal claims on Wednesday and of a likely increase in the pension age to 70 for many workers. And consultations on whether employers should be allowed to set a retirement age produced differing views from business, professional bodies, lawyers and pressure groups for the elderly. In the biggest change to employment law in a generation, age discrimination will be outlawed by October 2006. But ministers are divided about whether to outlaw mandatory retirement ages or to allow employers to retire employees at 70. The legislation is aimed at ending a situation "where hundreds of thousands of people are forced out of employment against their will in their fifties or late forties and find they cannot get another job", Patricia Hewitt, the trade and industry secretary, said. But John Cridland, deputy-director general of the Confederation of British Industry, said: "Employers will fear an explosion of employment tribunal cases because age discrimination is more difficult to define than other discrimination legislation." James Davies, employment lawyer at the law firm Lewis Silkin, said there would be "a rash of claims". Awards could run into the hundreds of thousands of pounds. Trades unions welcomed the legislation. But they warned that employees should not be forced to work longer for their pensions. Deborah Cooper, senior actuary at the pension specialists Mercer, said it was "almost a certainty" that employers "will at least consider raising pension age for future service" - particularly if 70 becomes the default age.
Source: Financial Times
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The proposed change in UK employment law to tackle age discrimination has its origins in an European Council directive which goes back to November 2000:

On 29 November 2000, the European Council unanimously adopted a new Directive requiring equal treatment in employment and occupation in the areas of sexual orientation, religion,disability and age. This will extend significantly the scope of anti-discrimination legislation in the UK.

The UK Government, along with all other Member States, is now required to introduce legislationin the relevant areas. Whilst the UK laws concerning disability discrimination would alreadyappear to comply with the provisions of the Directive, new legislation will be required in the otherareas and the timetable for introduction is as follows:

a) legislation outlawing discrimination on grounds of religion ­ by 31 December 2003;

b) on grounds of age ­ by 31 December 2006.

Source: Lawgram.Com
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Now maybe I should make some things clear. I am not against legislation which makes discrimination illegal. But I can see a difference between discrimination on grounds of religion or sexual orientation, which should have no real bearing on our capacity for work, and on grounds of age, were clearly our capacities may alter. Now it is quite coherent to try to argue the case for this law on humanitarian, and social responsibility grounds, my problem is in understanding where this relates to the structural reforms and the labour market flexibilisation on which our future is so evidently supposed to depend. How is it really proposed to establish definitions and criteria? How will we decide between a decision based on age related impairment (I mean we do slow down, and our short-term memories do deteriorate), and one based on prejudice? I mean we can establish quotas of old people, like we establish quotas of disabled people. The firm could be seen to be socially responsible. But isn't that just what everyone is criticising the old Japanese system for, for offering 'lifelong' employment and not being adapted to change. Somewhere along the line our economies need to produce more 'jobs', to create employment. But if we leave this to the market mechanisms firms will have a youth (30-45 age group) bias. Increasing the participation rates of the 55 - 75 age group is very laudible, but do we have any serious suggestions on the table about how we make ourselves more productive when we reach this age. If not unit costs will inev?tably rise (there must be a parrallel here with the Malthusian argument about extending agriculture across progressively less productive land) and our economies will become relatively less efficient: precisely the result we want to avoid. This is why I favour an immigration driven approach to the problem.

Now Lets Have a Big Hand For the Next European President

Well with Berlusconi finally up and running as EU president, those whose exclusive preoccupation has become Bush-bashing should have some food for thought. Finally there's a yardstick to measure him by. Meanwhile this is probably as good a moment as any to give a welcome to another member of the European blogging community (even if this is a case of an American-eye view of Europe). Eurosavant may, or may not, be as learned as his name suggests, but he certainly can read a lot of languages. (More languages in fact than I have blogs). And his idea is an interesting one: to review the European press coverage of a given topic. You see we lack a common language, so we need someone to come and put it in plain English for us (don't worry, I'm only being ironic)! Especially promising is his contact with and knowledge of the three 'key' East European candidate members: Czech Republic, Poland and Hungary. Since we on either side of the old 'iron curtain' know relatively little about one another this could be very interesting. Now if there was someone out there blogging something in English about Greece...........

The "Godfather" Takes Up the EU Presidency


It's July 1, so the half-yearly presidency of the European Union changes hands again (for possibly the second-to-the-last time, if the EU Constitution, which changes this system, is ratified within the first half of 2004 as planned). Good-bye to Greece; ciao to Italy, specifically to Silvio Berlusconi, the Italian prime minster.

Except that there may be a problem. Berlusconi has been having continuing trouble with the Italian courts - right, that sort of trouble, when they think you did something nasty and want to send you off to the slammer for a while. Indeed, he has already been convicted three times for various acts of corruption (perpetrated in his pre-prime minister days, when he was busy accumulating his fortune), but all of these are either under appeal or past the statute of limitations. Then there is his ongoing case in Milan, where he is accused of bribing judges back in the 1980s; one of the judges presiding in that case has come to the end of his term in office and so needs to be replaced, but under normal circumstances that would only give rise to a minor delay.

But these are anything but normal circumstances, when you're talking about criminal charges against the current head of government. In fact, there may not be a problem anymore, since the Italian parliament passed on June 18 a law making the holders of the top five political posts in Italy - thus including Berlusconi - immune from prosecution while in office. So it seems that he will still have to face up to pending charges once he leaves office - although by then more statute-of-limitation considerations may come into play - but he is free from the hassle until then, including during the imminent Italian EU presidency.


Other European observers see a problem nonetheless. Today EuroSavant returns to Germany for comment - among other reasons, because it's from there that the most heartfelt cry of dismay at the Italian premier's new responsibilities has been issued. In fact, it comes from Michael Müller, who is deputy head of the of the SPD faction in the Bundestag. (American readers: Think deputy majority leader in the House of Representatives.) "Berlusconi harms Italy and now also Europe," Müller wrote yesterday, reports Der Spiegel. "Italy's head of government undermines the independence of the judiciary, tailors the laws to fit his preferences, makes the state's interests identical to his own, and subjugates the media. Berlusconi is Corruption personified." (That last sentence in the original German was Berlusconi ist der Filz in Person. Thanks to my friend Jonas, from Berlin, for help with the translation.) Müller also termed Berlusconi der Raufbold aus Mailand - "the ruffian from Milan." (Il teppista da Milano, for all you Italians out there; always happy to do my bit for German-Italian relations!) Der Spiegel topped this off by putting Berlusconi on this week's cover, seated on what looks like a throne, with the words Der Pater - "The Godfather" - superimposed. And there is a raft of other articles about the Italian prime minister in that issue, none particularly complimentary - one details the lack of success Berlusconi has so far had with his business dealings in Germany (with a sigh of relief?). ................


An article in today's Die Welt takes the baton from Der Spiegel in the Berlusconi-bashing stakes. Forget his problems in the courts; reporter Andreas Middel is more worried about the effect of the Italian premier's idiosyncrasies on Italy's six-month EU presidency. This was the man who, shortly after the September 11 attacks, trumpeted "the superiority of Western culture" over Islam (so much for diplomatic ties with Arab states); who advocates that Turkey, Israel, and - yes - Russia be admitted as EU members as soon as possible (doesn't have the Union have enough on its plate as it is with the ten states joining next year?); who acted like an attack-dog at a past EU summit to grab the newly-established European Food Safety Authority for Parma over Helsinki ("the Finns don't even know how one eats ham" he remarked at the time). And it seems he has a serious running feud with the president of the European Commission, Romano Prodi. And his agenda for EU affairs for the next six months, writes Middel, is disturbingly murky.
Source: EuroSavant
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Just one small point. Towards the end of the piece Eurosavant says that "it's Italy that is in fine fiscal shape", now this isn't entirely correct. Italy has in fact avoided the threat of stability pact procedures only by taking a series of one-off measures, and it's not clear how long this can continue. They may go over the 3% this fiscal year. In any event they have a gynormous outstanding government debt, over 100% of GDP, and face one of the most vulnerable public finance dynamics in the EU. That being said, I still agree with the tenor of the point about north-south prejudices.

Chaos in the European Finance Ministries?

The only thing which surprises me in all this is other people's capacity to be surprised. Wherever have they been for the last twelve months? Now, of course, that the reality is dawning, panic may well set in. The only comment I have to add to the DIW institute forecast is that even this prediction of 1.3 per cent growth for 2004 may well be subject to significant downside risk. One last detail: if price indicators are falling in Germany next year, then any expansion there may be may well still be associated with falling nominal GDP numbers, and it is not clear to me, at least, what impact this may have on the rest of the eurozone. Remember there are a lot of historic 'firsts' here, and no-one really knows how they are going to pan out. Incidentally, when Pedro Solbes denies Germany is in a 'straightjacket', is this a direct rebuttal of Eddie's recent piece?

Germany is in an economic crisis, one the country's leading institutes warned on Tuesday, forecasting a shallow recession this year in the eurozone's biggest economy and disappointing growth rates in 2004. The prediction from the respected Berlin-based DIW institute came as Gerhard Schr?der, Germany's chancellor, repeated calls for the European Central Bank to cut interest rates next week and boost his government's plans to jump-start the economy. He said the ECB should consider "whether they have done enough to stimulate growth".

The DIW forecast that after a 0.1 per cent decline this year, the German economy would expand by 1.3 per cent in 2004 - markedly short of Mr Schr?der's claim of 2 per cent growth. The institute warned that the "biggest danger" now facing Germany was deflation, a sustained fall in price levels that hits demand and depresses growth. But Mr Schr?der's implicit criticism of the ECB, which cut rates by 50 basis points to 2 per cent last month, did little to deflect attention from the increasing strains on the German budget. Mr Schr?der on Tuesday told Pedro Solbes, the EU monetary affairs commissioner, that Germany would respect the deficit ceiling of 3 per cent of GDP set out in the eurozone's stability and growth pact - but few people believe he can honour that pledge. A third successive German breach of the ceiling in 2004 could destroy the pact's credibility and the issue is expected to dominate the next Brussels meeting of EU finance ministers on July 15. "There's chaos in the finance ministries of Europe today," said one senior EU finance treasury official, referring to fears about the effects of Mr Schr?der's budget plans on the stability pact.

Some officials say Italy, the new holder of the EU presidency, will use the German economic crisis as a chance to press for some kind of suspension of the pact until growth returns. Silvio Berlusconi, Italian prime minister, last month called for "an elastic interpretation" of the pact and France has made similar demands. A spokesman for Mr Solbes rejected the idea, saying such a suspension was impossible under EU law. "It's either alive or dead," he said.

Speaking in Berlin on Tuesday, Mr Solbes tried to hold the line on the stability pact, rejecting claims that it was "a straitjacket which keeps member states from doing what is reasonable". He accepted Germany's assurance that Mr Schr?der's recently-agreed plan for €15.5bn of accelerated tax cuts would be funded by savings in the budget but warned he expected Berlin to comply with the pact in 2004. Meanwhile, in a further sign of the EU's sluggish recovery, the Reuters/NTC Research purchasing managers' index for euro-zone manufacturing sank to 46.4 in June - its lowest level since January 2002 - from 46.8 in May. The 50 mark divides growth from contraction.
Source: Financial Times
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No Holidays Yet For Euroland Producers

At least this is the conclusion of MS's AnnaMaria Grimaldi and Eric Chaney as the look through the latest batch of business surveys:

You might be getting excited about the summer holidays and bright, sunny shores, but this is not the case for Euroland producers. Indeed, the evidence we gathered over this past week with the release of the June business surveys seems to fully support our recently revised macro call: No significant pick-up is expected in Europe before the autumn, in the best case............

Wrapping up the information from the June surveys, our manufacturing production indicator is pointing to a decline of 0.9%Q in Q2, one-tenth lower than in May and consistent with a flat GDP reading. The first look at 3Q Euroland production is rather gloomy: The indicator is forecasting a contraction of 0.6%Q, which our GDP model turns into a modest rebound for the Euroland economy (0.2%Q). These estimates cast little doubt for now that the Euroland economy remains in dangerous waters and that we are unlikely to see a rebound before the late this year or only in 2004.
Source: Morgan Stanley Global Economic Forum
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Eating Duisenberg's Hat


Following on from my last two posts, a piece on Germany which Eddie has in the Straits Times last week, but which I somehow overlooked. Perhaps I am just too coy!!

Germany caught in euro straitjacket


By Eddie Lee

EUROPEAN Central Bank (ECB) president Wim Duisenberg should be eating his hat. But the Germans won't find that funny. And Asia had better take notice, for Germany is the world's third-largest economy and is heading the way of Japan, the world's second-largest economy. When the ECB made its decision to hold its main refinancing (refi) rate steady at 2.5 per cent last month, the central bank said 'a gradual strengthening of growth is expected later in 2003 and to gather pace next year'.'Factors supporting this outlook are the expected recovery of global demand and the low level of interest rates,' it declared.A month later, the ECB hastily cut its refi interest rate by 50 basis points to 2 per cent. In its latest twice-yearly projections for the euro zone economy, growth forecasts for both this year and next were slashed.

This year's growth is put at just 0.7 per cent against December's estimate of 1.6 per cent. Next year, growth is expected to pick up to 1.6 per cent, but still well below the euro zone's long-term trend rate of 2 to 2.5 per cent.Mr Duisenberg urged governments to reduce pension costs and unemployment instead of calling for further interest rate cuts.If he got it so wrong on monetary policy, what confidence would you place on his assessment of the efficacy of pension reforms to solve the problem?Germany is in a bind.

The ECB uses average inflation and growth rates to base its monetary policy. While the euro zone's economy is still growing, the German economy has already contracted in the past two quarters.As former Bundesbank director Wilhelm Nolling told the London Telegraph this month: 'The truth is that the ECB is trying to carry out an impossible task. You cannot set one interest rate for 12 very different nations - that's a problem which won't go away.'He added: 'Deflation has already arrived, in that our economic dynamism has disappeared. There is no willingness among the private sector to invest, and euro zone rules have cut back public investment to an extent we haven't seen since the war.'

German Chancellor Gerhard Schroder's Agenda 2010 plans to tackle Germany's problem with structural reforms that Mr Duisenberg would approve. The key elements are to change the system of unemployment and pension benefits, and to alter the employment law allowing greater contractual flexibility.The patient, however, may not be in a condition to take this medicine.Germany's rigid labour market and its generous welfare state are well known.

There is growing awareness of the problems of Germany's ageing population. If you discount immigration and children born to parents of non-naturalised immigrants, the German population is shrinking.In less than 40 years, there will be just one working-age German supporting one retiree, compared to almost three to one today. But reality is worse than the statistics. There are many working-age Germans who are unemployed, and the situation looks like it is worsening.

The most direct impact of ageing will be the staggering fiscal cost. Washington's Center for Strategic and International Studies estimates that the cost will be equivalent to an extra 25 per cent of payroll in old-age benefits. This comes on top of payroll tax rates that already exceed 40 per cent.The pension system is in need of reform. But there are serious complications. And it would be simplistic to say the cause of Germany's problems lies in the intransigence of its unions.Both pension and labour reforms essentially relate to reducing the cost to the company of 'retiring' workers.

Downsizing, or rightsizing, the labour market amounts to a reduction in the value of the worker. Arguably, it is market driven.But as economist Edward Hugh from the University of Barcelona explains, pension reforms will devalue workers' life savings, and is no different from money lost in a bank account.He said: 'For many years, there has been an implicit contract between company and worker that the worker remained with the company, and gave his accumulated experience, in return for job security and anticipated compensation when the time for retirement came.'Then, suddenly, workers are to receive less financial compensation when they leave. The market value of life savings just changed. This devaluation is as important for the economic structure as asset price deflation, but receives much less attention.'German labour and pension reforms are important. But it is surely mistaken to tout them as the economy's elixir.

As Mr Hugh argues, 'sending a lot of middle-aged people out onto the street, with reduced pension expectations and limited job expectancy' does not sound like the way to jump-start an economy.Germany's path to recovery is fraught with danger. But its starting point must surely be to unchain itself from the straitjacket of the euro. It needs to take charge of its macro arsenal and decide the appropriate fiscal and monetary policies for its economy.

The clear and present danger is shrinking demand. Yet the complications of an ageing population mean that German society must also change its mindset and accept immigration as a solution. For how else can it avert the looming pension crisis without seriously deflating its economy?Mr Duisenberg may finally be right about one thing: 'Monetary policy cannot by itself solve the problems underlying the weak growth and employment performance.'
Source: Straits Times
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The Storm Over Germany's Tax Plan Continues


And now some more reaction to Hans Eichel's plan to bring forward tax cuts: the growth and stability pact is effectively suspended.

Europe's budget rules were facing their biggest challenge on Monday, in the face of Gerhard Schr?der's plan to press ahead with tax cuts despite Germany's yawning budget deficit.The European Commission warned that Mr Schr?der's strategy was risky and economists claimed the EU's stability and growth pact had in effect been suspended.....

But there is a growing sense among EU policymakers that the risks of deflation are more significant than the dangers of violating a pact that Germany helped to design. Pedro Solbes, EU monetary affairs commissioner, travels to Berlin on Tuesday for talks with Hans Eichel, German finance minister, to discuss the decision to cut income taxes by an extra €15.5bn next year. Mr Solbes's spokesman said Brussels acknowledged Mr Eichel's promise to find savings to fund the cuts, but added: "There are risks to this scenario."

Germany's support for tax cuts as a means of relaunching economic growth was welcomed in France. A senior member of the French government said the move would make it easier to pursue President Jacques Chirac's year-old electoral pledge to cut taxes despite France's own widening deficit. But many smaller countries that have cut spending to comply with the pact are alarmed by the apparent ability of Germany and France to breach it. José Manuel Dura~o Barroso, Portuguese prime minister, said recently: "When we sign a pact, we have to respect it."

"If anything, these latest developments act as a signal that the pact, as it stands now, will not last long. It is likely to be substantially revamped in due course," said Jacques Delpla of Barclays Capital. Officially, Berlin and Brussels say Germany will bring its deficit below 3 per cent of GDP next year, thus averting a crisis in the stability pact. But that forecast is based on GDP growth of 2 per cent in 2004 - way above consensus forecasts of 1.5 per cent.
Source: Financial Times
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Eurozone Manufacturing Continues to Contract


More bad news from Germany and the euozone generally, just to get the day started:

The eurozone manufacturing sector contracted at a faster pace in June, hit by the recent strength of the euro, a survey indicated on Tuesday.The Reuters eurozone purchasing managers' index slipped from 46.8 in May to 46.4 in June, worse than analysts had expected and the strongest rate of decline in seventeen months. A score of 50 distinguishes expansion from contraction.

The survey said the result reflected a faster rate of decline in manufacturing output and new orders, as well as a "marked reduction" in staffing levels. "The strength of the euro against the US dollar was again reported to have hit exports, but helped to push down input costs via cheaper imported raw materials," the survey said.

The output index fell from 48.6 in May to 48.1 in June, the third month in a row that production has fallen. Hardest hit were Ireland, the Netherlands and Germany, although the latter saw the pace of contraction ease slightly. In contrast, output continued to grow in Spain, Austria and Greece. Order books fell again in June at the fastest pace since December 2001, primarily because exports were hit by the strength of the euro. Worst-affected was Germany, although all eurozone countries bar Greece and Austria say order books decline.

Employment in the manufacturing sector also fell for the 25th consecutive month, although the pace of contraction slowed slightly: the index rose from 45.2 in May to 45.6 in June. Input cost inflation was dampened by excess capacity in manufacturers' supply chains. Average input prices fell, partly because of lower oil prices, but also because the strong euro had led to cheaper imported raw materials.
Source: Financial Times
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Germany to Try Tax Cuts

I am not convinced that this will work, but something has to be done. To cite the growth and stability pact at this critical moment seems to me extremely short sighted. Of course, one of the major criticisms of the euro in the comparison with the US Federal system of automatic tax stabilisers is the absence of similar remedies in the eurozone countries. Is it not rather ridiculous to have a range of countries enjoying relatively stronger growth while being in receipt of a net inflow of money from Germany via the structural funds at the same time as Germany itself is unable to operate fiscal stimulus due to communally agreed budget constraints? Should someone not suggest the application structural funds in reverse?

One final irony should be noted with reference to my recent posts about Milton Friedman and contractionary monetary policy. The German government seems to be advocating selling securities to pay for the cuts. This is exactly the opposite of what uncle Milton would recommend, since any large scale sale of securities would only depress assett markets further, and as a result (through the effect on bank balance sheets) indirectly restrict credit. So with one hand they take away what they give with the other. And this when Germany may well be faced with deflation and a liquidity trap. This just shows how far we are in reality from having learnt the "lessons" of the Ahearne et al paper.

Gerhard Schr?der, German chancellor, on Sunday announced additional income tax cuts next year worth more than €15bn in an effort to boost economic growth in Europe's largest economy. The decision, taken at a rare cabinet weekend retreat, would "send a signal of revival" to Germany and Europe, the chancellor said. The tax cuts would on average reduce income tax bills by 10 per cent, he said. However, it remained unclear on Sunday night how the government would cover the tax shortfalls next year, given its severe financial problems. Germany's budget deficit last year exceeded the 3 per cent limit under the European Union growth and stability pact, and is almost certain to do so again this year.

Under the terms of Sunday's decision, income tax cuts planned for January 2005 will be brought forward to January 1 next year and combined with other cuts scheduled for that date. Top income tax rates will fall from 48.5 per cent to 42 per cent, while the lowest will go from 19.9 per cent to 15 per cent. Yet doubts emerged on Sunday night on whether the tax cuts would be realised, as leaders of the conservative opposition said they would oppose the way the government intended to make up for the lost tax revenues next year. Mr Schr?der proposed making up for the tax shortfall by privatising state assets, or via new borrowing.

Angela Merkel, leader of the opposition Christian Democrats, called the result of the weekend meeting "hugely disappointing". She said that new borrowing was the wrong way to meet the tax shortfall. The government would need the support of Christian Democrat-led regional states in the upper house of parliament to alter the timetable for tax cuts.

Mr Schr?der also announced unspecified cuts in state subsidies, worth €45bn by 2010, as a way to consolidate government finances. Sunday's announcement came as Germany's powerful engineering union IG Metall was plunged into crisis following its defeat in a controversial month-long strike in eastern Germany for shorter working time. The strike collapsed on Saturday after 16 hours of talks with employers failed to yield a breakthrough. The defeat - the union's first in almost 50 years - followed mounting opposition to the strike from politicians and the public.

Hans Eichel, Germany's finance minister, insisted that, even if borrowing were increased to pay for the loss of tax revenues, next year's budget deficit would return below the 3 per cent limit set in the European Union's stability pact. The privatisation measures may include the sale of further batches of government-held shares in Deutsche Telekom, the telecommunications company, and postal company Deutsche Post. Mr Eichel stressed the sale of state assets would only occur if financial market conditions were right. Government officials admitted predicting the possible effect of the tax cuts was difficult, given the stagnant economy, and the possible counter effect on consumers of other savings measures in next year's budget.
Source: Financial Times
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