Analysis: German boom casts shadow over French election

PARIS Wed Feb 15, 2012 4:54am EST

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PARIS (Reuters) - Germany's booming economy has dominated the early exchanges in France's presidential election campaign but President Nicolas Sarkozy and his Socialist rival draw very different lessons from across the Rhine.

While Sarkozy believes France must copy Germany's painful budget cuts, wage restraint and labor market deregulation to boost prosperity, Socialist poll frontrunner Francois Hollande warns that such austerity could choke off a fragile recovery.

He wants to emulate Germany's investment in research, its support for small firms and its bigger role for trade unions in decision-making while keeping France's generous welfare system.

"Not everything in Germany's economic model deserves to be copied," Hollande's campaign chief Pierre Moscovici said.

While French growth has stalled, Germany's robust recovery stands in painful contrast. Stripped of its AAA credit rating by Standard & Poor's last month, Paris posted a record trade deficit last year. Unemployment is at a 12-year high.

Over the border, joblessness is at 20-year lows and exports hit a record last year. Small wonder perhaps that a recent poll found that 62 per cent of voters thought France should take the German model as an example.

"Germany has had huge success. That doesn't make us jealous, that inspires us," Sarkozy said in a television interview, pledging to learn from Germany's export-led growth.

He praised the 2003-2005 Hartz reforms under former Social Democratic Chancellor Gerhard Schroeder that liberalized the German labor market, helping it to shake off the hangover of unification with former-Communist east Germany in 1990.

Sarkozy plans to raise VAT to cut France's high labor costs by shifting the tax burden from payrolls to consumption, copying a step Germany took in 2007. He also wants to let firms bypass sectoral wage deals and negotiate on a company basis -- effectively burying the national 35-hour work week which the Socialists introduced in 2000.

Accusing Sarkozy of "capitulation to Germany," the Socialists say the Hartz reforms generated underemployment and raised the number of working poor. With no national minimum wage, roughly one-fifth of German workers are in low paid jobs -- a higher ratio even than in Greece.

Hollande has vowed to renegotiate a fiscal discipline pact adopted by 25 European leaders last month, which Berlin made a condition of its support for euro zone bailouts. He wants to give more priority to growth and a larger role to the ECB.

The Socialists aim to emulate German spending on research and support for small- and medium-sized companies that power exports -- the Mittelstand. They cite studies showing non-price factors have given German goods the edge over French merchandise -- technology, quality and product specialization.

"The Socialists seem to be missing the lessons of Germany's success: wage restraint and moving part of the supply chain to cheaper countries," said Gilles Moec, senior European economist at Deutsche Bank. "The lack of serious supply side reforms in their program is disappointing."

WAGES CRUCIAL

Many on the French left see Germany's decade of wage deflation, accepted by trade unions to preserve jobs, as having sown the seeds of the euro zone crisis by helping make southern European countries less competitive.

There can be little doubt that it has been instrumental in the divergent economic fortunes of France and Germany, its biggest trade partner.

While unit labor costs in Germany crept up by just 2 percent between 1999 and 2010, in France they leapt by more than 20 percent, OECD figures show, as productivity gains were pumped back into wage increases to fuel domestic demand.

French labor costs, which were a competitive advantage in the 1990s, have long since overtaken its neighbor's. Germany's federal statistics office said domestic wages averaged 29.20 euros per hour in 2010, 12 percent below France's.

Non-wage labor costs such as health insurance and welfare charges accounted for 49 euros per 100 in France, almost twice the 28 in Germany -- something Sarkozy aims to address with the VAT changes he is seeking to rush through parliament.

After ending the 1990s in trade surplus, France swung into deficit in 2000, the year it introduced the 35-hour week.

Over the next decade, its trade deficit steadily grew while Germany's surplus boomed -- with most of this surplus coming from within the euro zone as its goods became steadily more competitive against France and southern European nations.

Germany accounted for nearly one-quarter of France's 70 billion euro trade deficit last year -- the second largest factor after China.

TOO MUCH SWAY

Hollande argues that Germany has gained too much sway over the shape of the euro zone.

He wants to remold the Franco-German alliance with a new bilateral treaty next year to bring greater equality to the relationship driving Europe, 50 years after the Elysee Treaty established regular summits between two countries.

Critics say he is imitating one of his mentors, former Socialist Prime Minister Lionel Jospin, who tried to renegotiate the euro zone's stability pact -- its set of budgetary rules -- after winning office in 1997.

Jospin won a symbolic victory which did little more than change the name to "stability and growth pact" and many observers believe Hollande may struggle to achieve more in the face of German intransigence.

However, Socialists close to Hollande are watching carefully for signs of Germany loosening its wage restraint. They see signs that German Chancellor Angela Merkel is already trying to unpick some of the Schroeder's reforms, such as favoring the introduction of a national minimum wage by sector.

They are also hoping that elections in Germany in September 2013 usher in a left-leaning SPD-led government, which could pave the way to a more expansionary policy.

UNIONS' ROLE

Sarkozy says his proposed 1.6 percent rise in VAT to 21.1 percent will save companies some 13 billion euros a year in labor costs, easing the competitiveness gap with Germany. But some economists doubt the move will bring sufficient relief.

"More consumption tax and less taxes on labor can help but it's not a slam dunk. It's too small," Nobel prize-winning economist Paul Krugman told Reuters. "There is nothing wrong with the proposal but it's not going to solve the problem."

Hollande has pledged to scrap that policy if elected and also wants to unpick Sarkozy's landmark reform raising the minimum retirement age to 62. He believes France's unions should have a more prominent role on the German model.

Under German law, union members sit on the supervisory boards of bigger companies, leading to shared responsibility, fewer strikes and a tradeoff between temporarily shorter working hours and job preservation -- known as Kurzarbeit.

French industrial relations are much more combative, dating back to a landmark 1906 Charter of Amiens, in which unions vowed to take no part in politics and pursue class struggle.

With one of the most generous welfare systems in Europe, French voters are quick to protest against any reduction in entitlements. Millions demonstrated against Sarkozy's pension reform while there was hardly any protest when Germany raised the retirement age to 67.

"We need make our unions more responsible," said one Hollande adviser, who requested anonymity because he works for a public institution. "In that respect, Germany can be a model."

GLOBALISATION SPLIT

France has yet to embrace globalization in the way that Germany did in the late 1990s, when companies ramped up direct investment in eastern Europe and shifted part of their supply chains there. Berlin's share of foreign investment in the region increased to almost 30 percent in 2004-2006.

The French public debate is dominated by the fight to save old jobs rather than create new ones. A spate of corporate closures, from ferry operator SeaFrance to lingerie maker Lejaby, has caused an outcry. Politicians on all sides slammed carmaker Renault (RENA.PA) when it opened a low-cost plant in Morocco this month.

Studies show German offshoring not only boosted productivity of subsidiaries in Eastern Europe almost threefold compared to local firms, but also increased the productivity of the parent companies in Germany by more than 20 percent.

Both Sarkozy and Hollande have pledged to prevent the relocation of industrial production outside French borders, particularly in strategic industries such as the car sector.

Hollande has promised tax breaks for firms which repatriate production or keep it in France and vowed to make companies which move production outside France repay any past state aid.

"France has not yet come to terms with globalization," said Deutsche's Moec.

(Editing by Paul Taylor)

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