Merkel makes £44bn U-turn to try to save sinking German economy

Angela Merkel will make her sharpest political U-turn since becoming German Chancellor this week when her government unveils a €50bn (£44bn) package of tax cuts and incentives to protect Europe's biggest economy from deepening recession.

The "Pact for Germany" programme contains a battery of tax cuts, health insurance reductions and special government funds designed to stimulate an economy forecast to contract by 3 per cent this year.

The measures, expected to be agreed at a crisis cabinet meeting tomorrow, will be announced only weeks after Mrs Merkel's grand coalition government heaped scorn on Britain for "tossing around billions" in its efforts to tackle the credit crunch.

Germany's Finance Minister, Peer Steinbrück, went so far as to condemn Gordon Brown's VAT cuts as "crass Keynesianism" and said that it would take Britain a "whole generation" to work off the debt. Mrs Merkel insisted that spending one's way out of recession did not work. Yesterday, however, Mr Steinbrück announced plans to slash the basic tax rate from 15 to 12 per cent to persuade poorer families to keep spending.

A plethora of dire economic predictions facing Mrs Merkel and her Finance Minister appear to have convinced both that a U-turn is now unavoidable. The grimmest of these sees Germany facing its worst recession since the 1930s, when the Nazis gained power. Another says unemployment could rise by 750,000 this year.

The gravity of the situation was underlined last week when, for the first time in German post-war history, the government part-nationalised a private bank. The cabinet agreed to spend €18bn on a 25 per cent stake in the ailing Commerzbank to underwrite its merger with Dresdner Bank.

Pressure for a U-turn has also come from the Bavarian Christian Social Union, a sister party to Mrs Merkel's Christian Democrats, which has insisted that it will not support any recovery package unless it includes tax cuts.

Opinion polls suggest that a majority of Germans think Mrs Merkel is not doing enough to tackle the crisis, so she now presents herself to voters as a safe pair of hands at the tiller as the country attempts to weather the current economic storm.

She faces a general election this autumn and a regional one in the state of Hesse next Sunday. If the opinion polls are anything to go by, her tactics will pay off. Germany is a country still haunted by the economic depression of the 1930s and the nightmare that followed. Mrs Merkel has gone out of her way to give the impression of resolutely avoiding a repetition. Sunday's election in Hesse will be an early test of that resolve.