Isolated Merkel sticks by austerity after vote setback

BERLIN Mon May 14, 2012 10:59am EDT

BERLIN May 14 (Reuters) - Angela Merkel is looking increasingly isolated at home and in Europe after what she called a "bitter, painful defeat" for her party in a weekend election in Germany's most populous state.

The German chancellor said the vote did not change her view that fiscal rigour was the best path for Europe, although it highlighted resistance among Germans to enduring the kind of austerity she has forced on debt-laden southern nations.

Merkel will have to contend with a more aggressive opposition and less compliant allies with the setback for her Christian Democrats (CDU) in North Rhine-Westphalia on Sunday at the hands of the centre left Social Democrats (SPD).

And France's new Socialist President Francois Hollande is expected to press for new steps to boost growth in Europe, where many countries are struggling with recession and rising unemployment, when he meets Merkel in Berlin for the first time on Tuesday.

"It does not affect the work we have to do in Europe," Merkel said on Monday when asked about the impact of the NRW vote on her policies.

Nobody in her government opposed growth, she said, but the question was the impact of stimulus measures on the budget.

The CDU's campaign for the state vote focused on cutting the state's 180 billion euro debt mountain against Social Democrat plans for a slower approach to budget consolidation, but it was also a personality battle that the CDU lost.

"Yesterday was a bitter day, it was a bitter, painful defeat," Merkel said after results showed the SPD won 39.1 percent against 26.3 percent for the CDU.

Despite the growing austerity backlash, people close to Merkel have signalled that she has no intention of making big concessions to Hollande, beyond agreeing to a form of "growth pact" containing modest steps long under discussion in Brussels.

German officials, including Finance Minister Wolfgang Schaeuble, have suggested over the past week that they could tolerate higher inflation at home to help compensate for deflationary tendencies in Europe's southern periphery.

But they are ruling out stimulus measures that would raise debt levels. One senior aide to the chancellor told Reuters on condition of anonymity that she was "willing to talk about intensified growth and employment strategies" but only as long as they didn't involve new deficit spending.

One possible area of compromise is on deficit targets for euro zone weaklings, even if German officials have said repeatedly in recent weeks that there is no wiggle room here.

Most EU governments, the European Commission and the International Monetary Fund (IMF) now believe that some countries, notably Spain, will need more time to reduce their deficits.

"Merkel will find it hard to resist them all," said Charles Grant, director of the Centre for European Reform in London.

UNRULY PARTNERS

Germany's Social Democrats (SPD), emboldened by Hollande's victory and their big win in NRW, are demanding new growth-boosting steps to complement the German-led European fiscal pact.

SPD chairman Sigmar Gabriel said the state election had taught the party the value of being "combative and engaged".

Merkel needs the SPD's support to push her fiscal compact through parliament, but said on Monday that she would not engage with her rivals until after an informal May 23 summit in Brussels.

The so-called "troika" of SPD leaders - Gabriel, Peer Steinbrueck and Frank-Walter Steinmeier - have scheduled a news conference for Tuesday morning, hours ahead of Hollande's arrival, to set out their demands.

A day after the regional setback, Merkel also had to contend with pushier partners within her own coalition.

A surprisingly strong showing for her federal partners, the Free Democrats (FDP), in NRW has reinforced the idea among the party leadership that only by standing to Merkel can they hope to thrive.

"If we don't yield but stick to our stance no matter how much pressure is on us, we will succeed in the end," said FDP chief and economy minister Philipp Roesler.

Horst Seehofer, head of the Bavarian Christian Social Union (CSU) - the third party in Merkel's centre-right coalition - has also signalled he is fed up with the chancellor's party after weeks-long infighting over childcare and data retention policies.

The CDU's rout was widely blamed on its candidate in NRW Norbert Roettgen, Merkel's environment minister, who riled voters by refusing to commit to lead the opposition in the state in the event of a loss.

On Monday he tried his best to deflect blame for the battering away from Merkel.

"This was a total, comprehensive, clear defeat that we suffered, but it was also my defeat," Roettgen said.

"Above all this is the fault of the lead candidate, me, the themes I set, my style of campaign. I haven't only taken responsibility, but I believe this was my responsibility."

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