Germany's Problem is Europe's Problem
The New York Times, September 26, 1999
The classic "German problem" has been how to tether the
country's economic and military interests within its borders.
Now, Chancellor Gerhard Schroder is wrestling with a different German
problem: the Government is running out of money. To deal with that, Mr.
Schroder has proposed big cuts in spending coupled with less generous
pension benefits and welfare payments.
The proposals are not sitting well with the citizenry of what has been
the Continent's most important, vibrant economy.
How it turns out is a matter of some import to investors, because in
many respects Germany represents a test care of how other countries in the
European Union, facing the same problems, may address the rising costs of
In a telephone interview from London, Michael J. Browne, head of
European equities for Chase Global Asset Management Inc., took some time
last week to discuss the problem and the outlook for Europe. Here are
excerpts from the conversation:
Q. What are the stakes of the outcome of this budget struggle
A. The Problem that Schroder has is that if these reforms don't
go through, Germany's competitiveness comes under question, and its social
security system will come under attack. Right now, three to three and a
half people are working to pay for each pensioner. In the next few years,
that ratio will fall to two to one. It is a problem we are seeing all over
Europe, which is aging rapidly.
Unless the Germans come to grips with this, corporations are going to
move to where they are the most competitive, which will take them out of
That takes us to Europe's central, core issue: while governments have
created a single market, currency and interest rate, they have lost
control of macroeconomic policy. Now, spurred by a massive program of
deregulation, which still has a long way to go, Europe is unleashing
competition, and the levers to growth through that process have been
handed to private companies.
Q. What is your worst-case scenario for German reform?
A. The danger scenario, one I would not subscribe to, is that
the reform process fails. The Government falls, and is replaced by a much
harder left-of-center Government which enacts a number of pump-priming
policies to fight unemployment. That causes the European Central Bank to
raise interest rates, slowing the growth of all economies. If a country
like Germany went on a big fiscal push, the same thing could happen in any
of the other big countries.
Q. What do you think is more likely?
A. I think the Germans will muddle through this, leaving them
one step further down the road. At the end of the day, companies are
making their own decisions and doing what they want.
Q. How has this de-emphasis on sovereign risk influenced your
A. For a long time now, we have not invested on a
country-by-country basis, but on a sector, stock-selection basis. We are
currently overweight in Finland and France and underweight in Germany, but
that doesn't really tell the tale.
In technology Nokia is a terrific stock and Cap Gemini in
France is a terrific company for the development of the Internet and
E-commerce. In autos, Renault is a great story. Key stocks for us
this year include Vodafone Airtouch and BP Amoco.
Q. A little over a year ago people were bullish about
European stocks because pension funds and mutual funds on the Continent
were relatively underinvested in equities. Has the level of interest risen
A. We have seen a strong pickup in pension fund demand for
equities this year.
But while pension funds have been active, mutual fund purchases are
down about 50 percent from 1998. The flows are still positive, but because
of the Russian default and the other events that rocked the world
financial system, people backed off. We are just beginning to see some
signs that memories of last fall are beginning to fade. And the need to
save more is still there. People are worried that their state benefits are
not going to be what they thought.
Q. What is your outlook for Europe in the coming year?
A. Barring an exogenous shock, we think 2000 will be one of the
best years for growth in Europe in the last 15 and are relatively more
positive about Europe over the next few years than we are about the United
Next year we are looking for pan-European economic growth to be on the
order of 2.5 percent to 3 percent. Over the last two decades, the average
rate of growth has been about 1.8 percent. And we think that corporate
profits, which will grow about 12 percent to 14 percent this year, will do
about the same next year. This can be derailed by politicians and external
events, but I can see the pattern continuing into 2001.
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