UPDATE 1-Austrian political establishment on ropes after rightist surge
* Social Democrats want to extend coalition, conservatives wary
* Opposed to euro zone bailouts, far right waits in wings
* Business leaders say reforms in tax, bureaucracy overdue
(Recasts with fresh quotes) VIENNA, Sept 30 (Reuters) - Austria's pro-Europe political establishment may struggle to form a new coalition after slumping to a wafer-thin majority in elections, leaving the far right breathing down its neck over unaddressed threats to the nation's prosperity. With the anti-immigrant, anti-EU Freedom Party waiting in the wings, Chancellor Werner Faymann's Social Democrats want another coalition with the conservative People's Party. The two have dominated Austrian politics since World War Two. But despite their relief at escaping the fate of European Union counterparts who have been thrown out over painful austerity measures in the past few years, a renewed centrist coalition in Vienna is no done deal. Peoples Party (OVP) leader Michael Spindelegger is wary about signing up for five more years with the Social Democrats (SPO) given ideological differences and waning popularity that has saddled both parties with their worst results since 1945. "It won't work to continue the grand coalition as before with the same agenda and all the standstill and paralysis ... that we are always accused of," he told Austria's ORF radio, leaving the door open for a centre-right coalition. Analysts think Spindelegger is probably bluffing about casting his lot with the Freedom Party (FPO) and car parts magnate Frank Stronach's new party, both of which want to break up the euro and end taxpayer bailouts of euro zone weaklings. FPO leader Heinz-Christian Strache has said he would join a government only if Austria commits to a referendum on exiting the European Stability Mechanism, the 700 billion euro ($948 billion) bailout fund for ailing euro zone countries. But with the two big parties split over taxes and education - divisions pounded home to voters during weeks of campaigning that culminated in Sunday's parliamentary election - it will be no easy task to knit together a progressive coalition accord. In evidence of increasing grassroots disgruntlement with the mainstream, the SPO and OVP both shed more than 2 percentage points to 27.1 and 23.8 percent respectively while the FPO leaped by almost 4 points to 21.4 percent. Populists hostile to the euro or immigration have ridden a wave of resentment over austerity, recession and unemployment to make inroads from Austria to the Netherlands, Italy, France, Finland and Greece since the EU financial crisis began in 2008.
HEAD BASHING OVP parliamentary leader Karl-Heinz Kopf told ORF he would prefer a two-party coalition with the SPO but added: "Will we be able to live out a style of jointly presenting compromise and solutions, or will we go on as before so that in five years we get our heads bashed in? Then I'd rather drop it and look for someone else." Business leaders said it was time to finally stop all the partisan squabbling and get down to serious reform of the tax regime, reduce a bloated bureaucracy and fix a fragmented education system in the Alpine republic that yields results inferior to those of other affluent countries. "I hope that both parties are able to take criticism better than of late and realise that this outcome really is one that neither the SPO nor the OVP can be proud of," Erste Group Bank Chief Executive Andreas Treichl told ORF radio. He urged them to decide within three months to slash the initial income tax rate of 36.5 percent for people who make more than 11,000 euros ($14,900) a year, and to sharply boost the 50 percent rate for income above 60,000 euros. "For the Austrian economy this is really important and that is the priority topic," he said. Stefan Bruckbauer, chief economist at Bank Austria, said the country had weathered the global financial crisis relatively well so it was understandable the coalition partners retained a majority of 99 seats in the 183-seat lower house. But disenchantment with the government's slowness to tackle problems that menace Austria's prosperity is also boosting opposition parties like the Greens and liberal Neos, he added. "This government does not show the will to address the big problems of the future: education, bureaucracy and pensions," he said, singling out the state's oversized share of the economy. Government revenue accounts for nearly half of GDP, well above the average of 36.6 percent in the Organisation for Economic Cooperation and Development (OECD). But no tax relief is in sight given the big hits that taxpayers face for bailed-out banks like nationalised Hypo Alpe Adria, which is complicating efforts to balance the budget by 2016. "This won't lead to a mega-disaster, but it is something that needs to be solved now," said Bruckbauer. ($1 = 0.7385 euros)
(Additional reporting by Alexandra Schwarz-Goerlich and Georgina Prodhan; Editing by Mark Heinrich)