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German Government Suspends “Debt Brake” Amid Budget Crisis, Threatening Long-Term Prosperity

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German Government Suspends “Debt Brake” After Court Ruling

The German government has announced its decision to suspend the country’s “debt brake” following a ruling by the Constitutional Court. The move comes after the court forced the cancellation of approximately 60 billion euros in fiscal spending that had been included in a 210 billion euro climate and transformation fund. While the suspension offers temporary relief, the long-term implications are concerning for the German economy.

The debt brake, which limits structural budget deficits to 0.35% of GDP, has only been suspended for this year’s budget. The real concern lies with the 2024 budget, as the discussion on that has been delayed. To suspend the debt brake, the government must claim an emergency, and while Covid-19 served as a justifiable reason, it remains uncertain if climate change falls under the same category. The government is considering implementing higher taxes, such as increased levies on carbon and inheritance, as well as cuts to subsidies aimed at helping businesses and households navigate the energy crisis. The Organisation for Economic Co-operation and Development has warned that these measures to regain control of the budget will impact next year’s growth.

The prolonged uncertainty, both legal and economic, resulting from the budget crisis will also have consequences for the German economy. Businesses will find it challenging to predict the type of public aid they can expect to alleviate the energy crisis and support investment in the climate transition. This uncertainty may lead to lower private investment. Additionally, households, concerned about the future, are likely to increase their savings, according to ING economist Carsten Brzeski.

Perhaps the most significant risk Germany faces is a decrease in public investment. For decades, Germany has invested significantly less in public projects compared to the rest of Europe. However, at a time when Berlin should be ramping up public investment, the country may experience a decrease. The German Economic Institute estimates that Germany needs to invest between 450 billion and 500 billion euros in the next decade. Unfortunately, public net investment has been negative for the past 20 years, which could have serious long-term consequences for Germany’s prosperity. Lower future growth would also contribute to a higher debt-to-GDP ratio.

The debt-to-GDP ratio in Germany currently stands at approximately 66%, projected to decrease to 64% by 2024, compared to the eurozone average of 90%. While the country is not on the brink of a debt crisis, its strict approach to fiscal restraint is starting to take an economic toll.

German Finance Minister Christian Lindner has responded to the budgetary crisis caused by the Constitutional Court ruling by proposing a supplementary budget for 2023 that includes the suspension of limits on new borrowing. The finance minister aims to secure constitutional backing for spending, particularly for measures to control power and gas prices.

The announcement of the debt brake suspension has already had an impact on Germany’s 10-year bonds, with yields rising by 9 basis points to 2.66% on November 23. The implications of the ruling and subsequent government decisions will be closely monitored as Germany navigates its way through the budget crisis and its economic aftermath.

More detail via Reuters here… ( Image via Reuters )

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