Nikolai Frank in Berlin -

With the car industry suffering perhaps more than any other during this economic crisis, government incentives to scrap old cars and buy new ones have brought some welcome relief to the sector in many countries of emerging Europe.

Carmakers around the world, shaken by the double impact of the global slump and the heightened environmental concerns of consumers increasingly opting for smaller (ie. less profitable) vehicles, have managed to post an increase in sales in 2009 thanks to these scrappage schemes. Euphemistically dubbed "fleet renewal" by the industry, the first such programme was launched in Germany at the start of the year, although a similar scheme in France in 2008 focused on exchanging serious polluters for more efficient, environmentally friendly vehicles. The success of the German scheme, which came to an end in September after a total of €5bn in state subsidies were spent on 1.7m cars, has emboldened governments elsewhere to follow suit.

In Southeast Europe, Romania and Serbia, whose car industries are small by western-European standards but politically significant, have already adopted scrappage schemes. Romania, the region's largest car producer, offers its citizens €1,000 for cars 10 years or older. Yet the programme is primarily benefiting the western carmakers that own most of the Romanian auto industry: Renault, which bought Romania's oldest carmaker Dacia in 1999, and Ford, which acquired the Daewoo plant in Craiova last year. Even if profits are going abroad, the government can say it is doing something to fight for domestic industry and jobs.

It is a similar situation in Serbia, where the car industry consists of the Zastava plant in Kragujevac, owned by Fiat. The scrappage scheme has been highly popular with Serbian consumers, who can receive up to one-fifth of the market price paid by the state. But there has been frustration that the government is essentially subsidising the Italian carmaker, which acquired Zastava last year and has promised substantial investments that are yet to materialise. The government is hoping the scrappage incentives will buy it some time and favour with voters.

Governments across emerging Europe are warming to scrappage programmes as a relatively easy method of tackling the crisis. Slovakia, with one of the region's largest automobile industries, offers its citizens €2,000 (more than in some Western European countries) for cars that are 10 years or older. Poland, the Czech Republic and Hungary are mulling similar schemes.

Scraping through

In the short term, scrappage incentives secure jobs, help to avoid shock bankruptcies in the industry and offer a flurry of optimism to consumers in these times of gloom. Yet governments know there are at least as many potential drawbacks. By creating artificial demand for a limited period, they risk causing a worse subsequent slump for an industry that for years has been producing in surplus anyway. "It's an open-ended bet," says Eric Heymann of Deutsche Bank. "It can cause more damage than good in the long run because capacity is pushed up that cannot be sustained as soon demand drops off."

Defenders of the scheme (which includes the auto industry) hope the worst of the crisis will soon be over, and that more regular car buyers - companies and the wealthy - will help bridge the drop in demand that will inevitably ensue. This is crucial, since one of the greatest impacts of the schemes is on consumer confidence: while a new car may make you happier, it is unlikely to make you spend more money on furniture, gadgets and appliances. The net effect of such programmes does not enter into the short-term political argument.

Apart from doubts about their long-term effectiveness, the programmes have also been criticised for singling out one industry for preferential treatment while others are left to flounder. Subsidising carmakers may make political sense, but in these times of hardship for the manufacturing sector it is potentially irresponsible. "Why cars? Why not washing machines? Why not roof tiles?" asks Gabor Hunya of the Vienna Institute for International Economic Studies. "Powerful lobby groups will always demand this kind of state help, but a strong and sensible government shouldn't give in."

But in Southeast Europe, even governments that are strong and sensible have limited options to deal with the crisis. Faced with falling industrial output, low consumer confidence and plummeting tax revenues, they cannot borrow and spend their way out of the recession like stronger economies are attempting to do. On the contrary, many governments in the region that are negotiating loans from the International Monetary Fund (IMF) are curbing spending in a bid to lower their budget deficits, a prerequisite to receiving aid.

Thus politically valuable and time-buying measures such as scrappage schemes seem on balance like a good idea for governments with the luxury problem of having a car industry. But it won't resolve the issue of the sector's longer-term fate once the world is out of recession.

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