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BERLIN (Reuters) - Germany's would-be coalition partners have made progress in talks on power-sharing, with draft documents showing they have agreed to support cleaner combustion engines, but on Thursday the two sides will tackle the issues that divide them most.
Chancellor Angela Merkel's conservatives and the centre-left Social Democrats are in intensive though still exploratory talks on a range of policy areas a day before they decide whether to move on to formal negotiations on establishing a new government, more than three months after an election setback for both.
A weakened Merkel turned to the wary Social Democrats (SPD) to seek a re-run of their so-called "grand coalition" after the collapse in November of talks on a three-way tie-up involving smaller parties untested at national level.
The chancellor, who has won widespread respect abroad in more than 12 years in power, needs the coalition talks to succeed to avoid her personal authority being further undermined and Germany's international standing diminished.
As Europe's largest economy and pre-eminent power broker, Germany is crucial to the region's fortunes. Berlin's partners are awaiting a new government to help propel Brexit talks, euro zone reform and EU diplomatic initiatives.
Michael Grosse-Broemer, head of the conservative group in parliament, told reporters he expected difficult talks on the most sensitive issues on Thursday, but remained upbeat that a deal could be reached.
"We will continue tough negotiations, tomorrow as well, but I am optimistic that we can achieve a resolution," he said, speaking for conservatives and Social Democrats after a long day of discussions in Berlin.
Bavarian conservative Peter Ramsauer said he saw a 70 percent chance the parties would agree to pursue formal talks.
It also made clear that they are committed to cleaner, more efficient combustion engines which may mean hardware modifications. This would be a far more expensive option than software upgrades already agreed with powerful carmakers.
The proposal is, however, less ambitious than plans made by other countries, such as France and Britain, which have set dates to ban diesel engines.
The German auto industry, which employs 800,000 people, has invested heavily in diesel over the last couple of decades.
The paper also showed the parties would set up a German-French centre to develop artificial intelligence.
The parties' finance experts are discussing the cost of measures already agreed and the Rheinische Post daily reported that spending wishes so far amounted to some 100 billion euros, way over the 45 billion euros available for the period to 2021.
So far, documents show conservative and SPD negotiators have agreed on rules to attract skilled immigrants, dropped plans to cut carbon dioxide emissions by 40 percent by 2020 from 1990 levels, and approved some tax measures
The talks between Merkel's Christian Democrats (CDU), Bavaria's Christian Social Union (CSU) and SPD are due to conclude on Thursday, before SPD leaders recommend to their members whether they should shift into official negotiations.
SPD leaders, who need to convince their party members in a vote on Jan. 21 on whether to proceed, are playing hardball.
Kevin Kuehnert, head of the Jusos youth branch of the SPD, told broadcaster ARD that a deal among coalition negotiators to drop CO2 emissions goals "was not a good start to these talks".
He told Der Spiegel Online there was a good chance party members would reject any plans for a "grand coalition".
"We can still block the grand coalition," Spiegel quoted him as saying.
Merkel has ruled with the SPD in a sometimes awkward grand coalition in two of her three previous terms in office, including in the last parliament from 2013-2017. But both parties lost votes in the Sept. 24 election, which saw the far-right Alternative for Germany (AfD) enter the Bundestag (national parliament) for the first time.
Many in the SPD rank-and-file fear a re-run of the grand coalition will further diminish the identity of the party, which suffered its worst result in September's vote since 1933. Others worry that a new grand coalition would make the AfD the main opposition party.
Two of the toughest areas to agree on will be policies on taxes, euro zone reform, with the SPD stronger advocates of deeper integration, and migrants, especially over whether family members should be allowed to join asylum seekers in Germany.
Should the two biggest party groups fail to agree on moving ahead, Merkel could try to form a minority government, or Germany could face new elections.