By Sarah Marsh
BERLIN, Oct 4 (Reuters) - Angela Merkel holds preliminarytalks with the Social Democrats (SPD) on Friday to sound out thescope for compromises to form a "grand coalition", marking thestart of complicated horse-trading that could drag on into nextyear.
Germany's European partners are watching the coalitionmanoeuvring in Berlin closely, concerned that delays could pushback EU-wide decisions on important financial crisis-fightingmeasures like the ambitious banking union project.
"Europe is watching us, the world is watching us," Merkelsaid at an event in Stuttgart ahead of the negotiations. "Wehave the common responsibility to build a stable government."
The SPD are seen as the conservative chancellor's mostlikely partner, but they have said they will not be rushed intoa deal. Merkel will also hold preliminary talks with the Greensnext week, playing potential partners off against each other.
Merkel said the landslide victory of her conservatives inthe Sept. 22 election had underscored voters' trust in them."Now I will obviously try to justify this trust by fair talks."
There is deep resistance among SPD members to enteringanother "grand coalition" with Merkel, after hooking up with herin her first term only to plunge to their worst post-war resultin the 2009 election.
Merkel's outgoing ally, the Free Democrats, suffered thesame fate. After four years as her junior partner, they obtainedless than 5 percent of the vote and so were booted out of theGerman parliament for the first time since 1949.
The talks on Friday aimed to examine whether policycompromises are feasible. Once these preliminary discussions arecompleted, a group of 200 senior SPD officials from acrossGermany must flash a green light before the party enters moreformal coalition negotiations with Merkel's conservatives.
"It is still an open question as to whether or not it willcome to formal coalition talks," said Andrea Nahles, generalsecretary of the SPD, striking a firm negotiating stance.
Nahles has said it could take until December or January fora government in Europe's largest and most powerful economy to beformed.
Political risk analyst Carsten Nickel at Teneo Intelligencesaid such claims were tactical posturing and he expected a dealearlier, noting that "a prolonged period of partisan bickeringwould not pay off with Germany's stability-prone electorate."
Moreover no party would want to risk exacerbating the eurozone crisis. Merkel's cabinet will act as caretaker governmentand "act if immediate decisions were required, for instance onGreek financing needs for 2014", Nickel said.
"Where possible, however, the preference will be to postponedecisions until a new government is in place."
WILLING TO COMPROMISE?
The aim of the formal coalition talks would be to agree apolicy blueprint for the next government, as well as theallocation of top cabinet posts.
At the very end, the SPD has said it will have to go back toits 472,000 grassroots members and seek their approval beforeagreeing to an alliance with Merkel.
This raises pressure on the chancellor to make compromises,but it also poses a serious risk to the SPD leadership.
If the SPD rank and file were to reject a coalition dealnegotiated by their leaders, party Chairman Sigmar Gabriel andother senior figures would probably have to step down.
Merkel's Christian Democrats and the SPD appear headed for ashowdown over tax policy and bellwether cabinet positions,including the influential finance ministry now led by Merkelally Wolfgang Schaeuble.
Leading conservatives have sworn to stand by their campaignpromise not to increase taxes. The SPD campaigned on a platformof tax hikes for top earners to fund improvements ininfrastructure and education.
Schaeuble said that by giving Merkel such strong backing,voters had shown they were against tax rises. In an interviewwith mass circulation Bild am Sonntag, he said: "We will fightfor each and every point in our campaign programme".
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