Forks in the Reform Roads in Germany and the U.S.
By Dr. Jackson Janes

Gerhard Schröder could not even catch his breath after returning from summer vacation this week before he was calling emergency meetings of his cabinet and coalition. With massive street protests aimed at planned unemployment benefit cuts beginning in 2005, the Chancellor's resolve to institute reforms in order to make Germany's rigid labor market more competitive was being put under severe pressure, not only on the streets but within the government and, in particular, within his own party.

The current challenge is only the tip of many icebergs, and the chancellor is trying to steer his ship around them in order to avoid sinking at the national elections in the fall of 2006. Yet, the problems in Germany, and throughout Europe, involve not only policy adjustments but also attitude change. And the splits over the government's changes run as much through the party system - between left (SPD) and right (CDU/CSU) - as well as right through both parties and other political clusters and splits. One can see that in the battle within the SPD between Schröder and his old competitor, Oskar Lafontaine, and between camps within the CDU and CSU jostling for positions in the 2006 election campaign beginning next year.

Amidst these battles, the public is being challenged to reexamine its assumptions about the future, and about the political leaders who are claiming to have the map to lead them there. Despite some inept efforts on the part of governments to sell their reform measures, most voters see the elephants in the room, such as the enormous load of social security payments coming due at a time when the declining demographics of German society will converge with rising demands in the next two decades. There are many who say:

"Unless Social Security and (medical care) benefits are brought under control, the government will face stark options: either draconian cuts in defense, education, transportation, the criminal justice and other programs, or huge tax hikes -- or, of course both."

This refrain might be familiar to Germans -- but in fact it comes from an American warning his fellow citizens. These words, written by Peter Peterson, former secretary of commerce, in his new book, Running on Empty, are as urgent for Americans as they are for Germans. The alarm bells about the future of the American and German social and economic security systems have been ringing for some time but most politicians have been slow to respond to the omens of fiscal storms ahead, preferring to let the unlucky successor inherit the hard parts.

Germans and Americans alike may suspect that there is danger on the domestic horizon. But there are also dangers for the future of the German-American relationship. The interdependence among three dimensions of security - national, economic and social - could prompt German and American leaders to make choices that could result in serious conflicts of interest in German-American relations.

In Germany, the demands on the domestic front for economic and social security, could result in cuts in an already depleted defense budget or other forms of international engagement, making Berlin even more reluctant to supply resources to initiatives deemed urgent by the United States. With no let up in military expenditures at a time of war-time thinking in Washington, demands on allies will also not let up. That is a formula for friction, perhaps with the argument over Iraq only a preliminary signal of things to come.

Financing the German domestic deficits might get in the way of financing American current accounts deficits, a factor which is highlighted by the enormous amount of U.S. debt held around the world, including in Germany. In today's world, the capital market is global. German and U.S. policy, if unchanged, mean we both will be drawing heavily on the international capital market. This will drive up the cost of borrowing on both sides of the Atlantic, which will slow the economies.

The demographic future in Germany may be far more dangerous than in the United States, given the dramatic decline in birth rates in Germany and the rapidly aging -- and retiring -- generations about to make their demands on the social security system.

The bottom line, literally, is that neither the United States nor Germany can solve their three dimensional security challenges on their own, yet serious choices have to be made about domestic and foreign policies now. The U.S. election in November will determine whether Bush or Kerry will set the agenda for the next four years in Washington. Gerhard Schröder has presumably two more years before facing his challenger for office. The question on both sides of the Atlantic is whether either set of leaders chosen will be able to guide us away from political and economic dead end risks and fiscal meltdowns with short-term measures and toward long-term sustainable solutions. Political leaders are always tempted by the former path of lesser resistance. While Chancellor Schröder is at one of the many forks in the reform road in Germany now, the American electorate will be facing theirs on November 2nd. Yogi Berra's advice --if you see a fork in the road, take it -- may not be helpful this time. There is too much at stake to just be guessing.

This essay appeared in the August 12, 2004 AICGS Advisor.

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For a related analysis, see the essay "Germano-pessimism: Just How Troubled Is Germany's Economic Future?" by Prof. Holger Wolf.