GERMAN FINANCIAL BAILOUT APPROVED

UNCLAS SECTION 01 OF 02 BERLIN 001414 SENSITIVE STATE FOR DRL/ILCSR AND EUR/AGS LABOR FOR ILAB (BRUMFIELD) TREASURY FOR OASIA SIPDIS E.O. 12958: N/A TAGS: EFIN ECON ELAB GM SUBJECT: GERMAN FINANCIAL BAILOUT APPROVED REF: FRANKFURT 003102 ¶1. SUMMARY. Despite concerns raised by some of Germany's states regarding the division of cost between the federal and state government, the German Parliament today approved legislation to shore up the country's ailing financial system. Business leaders and economists applauded the development. Chancellor Merkel, who had brokered a compromise deal with the states to ensure the legislation's approval, spoke of the need for a "new financial-market constitution." She also continued to emphasize the importance of a stronger oversight role for the IMF, improved credit-rating agencies, and less risk with greater transparency in financial products. The outlook for the real economy looks increasingly more worrisome; the German government cut its 2009 growth forecast from 1.2 to 0.2 percent this week and most leading economists believe Germany is sliding into recession. FINANCIAL BAILOUT APPROVED BY PARLIAMENT -------------- ¶2. The German Parliament today overwhelmingly approved legislation to shore up the country's ailing financial system. The vote in the Bundestag (House of Representatives) was 476 in favor, 99 against. The Greens and Left Party opposed the plan. The Bundesrat (the Federal Council, representing state governments) backed the plan unanimously, and President Horst Koehler signed it into law. The legislation will take effect 8:30 am on Monday, October 20, before the opening of trading on the Frankfurt Stock Exchange, which begins at 9:00 am. ¶3. As reported in reftel, the so-called Financial Market Stabilization Fund authorizes the government to guarantee 400 billion euros ($544 billion) in loans between banks, channel up to 80 billion euros ($109 billion) for capital injections and spend an undisclosed amount to buy up toxic assets. In return, the government will collect fees on guarantees and assume discretionary powers in the institutions that it funds directly. ¶4. There had been concerns the legislation would founder due to opposition by the states (Lander). State leaders, led by the Bavarians, complained of the high cost associated with contributing to a federal rescue plan while covering their own regional banks' bad debt. Following negotiations with Chancellor Merkel on October 16, a compromise was reached whereby the states would shoulder 35 percent of the federal rescue plan's costs, but not exceed a ceiling of 7.7 billion euros. BUSINESS LEADERS AND ECONOMISTS REACT POSITIVELY -------------- --- ¶5. German business leaders and leading economists applauded the German rescue package and efforts to coordinate with other European countries. The Association of German Banks (BdB) said the plan was an important step to remove liquidity bottlenecks in the inter-bank market, strengthen banks' capital base and create confidence in general. The Federation of German Employers' Associations (BDA) and the Association of German Chambers of Industry and Commerce (DIHK) welcomed the package of measures adopted by the euro-zone countries as an "absolutely imperative step" to end the financial crisis. The president of the German Institute for Economic Research (DIW),Klaus Zimmermann, defended the public guarantee package to recapitalize banks as an emergency solution, calling for internationally coordinated reforms and a European financial supervision authority. The Frankfurt DAX rose on news of the plan's approval. ¶6. The CEO of Deutsche Bank, Josef Ackermann, along his colleagues on Deutsche Bank's board of management, announced they would forego 50 percent of their salaries in light of the financial crisis. Ackermann also said his bank would not require government assistance in the financial crisis. ECONOMIC OUTLOOK: MOSTLY CLOUDY -------------- ¶7. Some optimists in Germany posit the peculiarities of the small- and medium-sized enterprises known as the "Mittelstand" may partially shield the German economy from the financial crisis. Mittelstand firms have annual sales of below 50 million euros and employ less than 500 people. These firms comprise 99.7 percent of all German companies, and employ over 70 percent of the private sector workforce. They are responsible for over 47 percent of total output. Unlike Germany's large multinational companies, Mittelstand firms do not generally borrow from the large private and state-owned BERLIN 00001414 002 OF 002 regional banks that have been most affected by the financial crisis. Only 2 percent of the 4000 Mittelstand firms that requested credit were denied by their local "house" banks, according to a study released early October by Creditreform economic research group. Some believe that as a result, tightening credit markets will have less of a direct impact on this important element of the German economy, and by extension, on the German economy as a whole. ¶8. Most economists, however, see a bleaker picture. In their joint economic forecast for autumn 2008, six leading economic institutions said the German economy was on the brink of recession. They praised the German government's rescue package to shore up the German banking sector, however. The institutions also predicted that "if it is possible for the banking sector to stabilize in the coming months, by mid-2009 the global economy should gradually recover." Meanwhile, the German government cut its 2009 growth forecast from 1.2 to 0.2 percent. Growth predictions for 2008 remain unchanged at 1.7 percent. GOVERNMENT CHARTS THE WAY FORWARD -------------- ¶9. Chancellor Angela Merkel emphasized on October 16 the preeminent role of the state in reestablishing confidence among banks "in order to protect citizens, not to protect the banks' interests." The rescue package was a first step to stabilize the financial system, she said; it will involve limits on compensation and state influence on management decisions. Merkel added that the second "building block for a new financial-market constitution" will require a stronger oversight role for the International Monetary Fund, improved credit-rating companies and less risk with greater transparency in financial products. Merkel also predicted European accounting rules with regard to "mark-to-market" valuations will be brought into line with U.S. standards by next Wednesday. ¶10. Despite recent comments by Economics Minister Michael Glos that the government should move up tax cuts planned for 2010 by a year, an economic stimulus package to spur growth does not appear imminent. Foreign Minister Frank-Walter Steinmeier said this week the question is "not ready to be decided." Finance Minister Peer Steinbrueck clearly opposes a stimulus, as it would complicate his goal of balancing the federal budget by 2011. KOENIG