Update: Kindly linked by Andy.

I believed that Germany needed Angela Merkel—a moderate conservative who could be a tough-minded economic reformer. I was in love with the idea that she could be the leader to tear apart the broken apparatus of Germany’s overwhelming social programs and build up new structures of commerce and stability.

Trouble is, Merkel isn’t the person that I thought she was and the reforms being proposed by her coalition government could be far more ruinous than Schroder’s incompetent neglect. God help Germany.

The specifics of the proposal aren’t just ugly: they contradict the economic policies that have maintained healthy economies in the US and helped usher in growth in emerging economies throughout the world.

Germany’s plan to cure its self-confessed economic failure by doing exactly the opposite to what modern economics would suggest is certainly a bold and novel idea. Jim O’Neill, the chief international economist of Goldman Sachs, remarked on television last week that German politicians are acting as if they had never seen an economics textbook, much less understood one.

Accordingly, the new German Government has decided to impose one of the biggest tax increases in postwar history and to target the extra taxes on the weakest and most sensitive parts of the economy: consumption, which will suffer a three percentage point increase in VAT, and housing, which will lose tax incentives for first-time buyers. In addition, to fend off accusations that the new consumption taxes will bear unfairly on poorer consumers, the Government will hit the rich as well, increasing the top rate of income tax from 42 per cent to 45 per cent.

What Merkel’s coalition has done, simply, is to wave the white flag. They are admitting that they don’t have the backbone to re-work the social programs that are dragging the economy down, admitting that they have no idea how to broaden the tax base by making an economic climate more conducive to business expansion (and job growth), and admitting that in the absence of other ideas they will simply ask the working class to foot even more of the bill for the unemployed and retired.

The problems with this approach are easy to imagine, of course, and it is only a willful blindness in leadership that could allow such a plan to be seriously considered. The first problem is that Germany is shrinking. Low population growth combined with insufficient immigration have actually fallen below replacement levels. This means that the tax base is shrinking, too—in fifteen years there will be even fewer workers in an aging population paying for an even greater number of unemployed. Intriguingly, even with a shrinking base of qualified workers, unemployment remains high—meaning that German companies are losing even more jobs than the country is losing qualified candidates.

The second problem is that there will be fewer consumers with money to spend on Germany’s products since the government will be filtering that cash through a massive and inefficient bureaucracy. That, itself, is a perfect ingredient for deepening a recession.

Normally, this kind of situation might work itself out, at least partially, with the devaluing of currency. That is, exports should rise if German currency was devalued when compared with other currencies. But there are two things working against Germany on that front: Germany is tied to the euro (which means they don’t set their own interest rates and the value of their currency isn’t based solely on their own economy) and competition from developing nations.

The euro would need to drop in value significantly to make German exports look appreciably more attractive to Americans. That isn’t likely to happen in the near future since the money managers in Europe value having a high rate of exchange verses the dollar. The euro has been creeping lower in trading, but still holds a pretty high value and, barring economic calamity in all of Europe’s biggest economies, the euro isn’t likely to become unstable.

And even with slow changes in value, the rising economies on the Asian Rim, in India, and in Eastern Europe look to continue attracting development money and speculators. Germany’s tax hikes will make an ailing economy look even less friendly to consumers and business—which is to say, unfriendly to investment.

Lest we in the US enjoy the show too much, though, keep in mind that not only will worsening German financial woes have an effect on our own markets, but we face many of the same challenges in the long run. Unfortunately, we are showing the same resistance to good solutions, too. Medicare, welfare programs, and Social Security combined with massive deficit spending, an unhealthy trade gap, and a marginal population growth (bolstered, though, by healthy immigration), we face a time not too far off where the demands of our social programs far outstrips our current level of taxation.

Would we Americans choose the hard path by cutting into those programs to maintain our country’s long-term economic health? Or would we choose to cripple our own economy with massive tax increases?

Sadly, once the public learns to expect Uncle Sugar’s paternal guidance (and a “free” ride) in matters like health care, higher education, and retirement, the public doesn’t have much of a track record of letting go. Call me cynical, but the recent Social Security debate has made me wonder just how much Americans care about the long view of the economy.

Most people seem content saying, “This is what I’ve been promised, I expect even more, and I’ll be damned if I’ll be talked out of my entitlements.”

A glance at Angela Merkel’s vision for Germany might well be a glimpse of our own future.

Read the story.
Hat tip to Andrew Stuttaford.