Debt Brake Woes

Kiana Bussa

Halle Foundation/AGI Intern

Kiana Bussa is a research intern at AGI in summer 2024. Ms. Bussa is an undergraduate student at the University of Georgia where she majors in International Affairs and minors in International Human Rights and Security and Data Analytics for Public Policy. At UGA, Ms. Bussa has conducted independent research with the GLOBIS Human Rights Research Lab and developed policy-related skills in the Security Leadership Program with the Center for International Trade and Security. In her spare time, she debates with the Phi Kappa Literary Society.

In order to understand the German debt brake (and the debate surrounding it), it is essential to observe that contemporary Germans are deeply averse to debt. Both culturally and politically, there is pervasive suspicion surrounding debt and a strong belief in fiscal responsibility. Even linguistically, there is a negative connotation associated with debt; the German word for debt and guilt are derived from the same word (Schuld). Popular convention suggests that this aversion is rooted in a national trauma of the Weimar period, in which excessive debt led to massive inflation and economic hardship. Some experts suggest German behaviors are actually rooted in enlightenment ideals and the early development of savings banks in Germany. Regardless of its origin, the German distaste for debt is likely why, for instance, Germany has the lowest credit card debt among European countries.

It is also why the German public is so strongly supportive of austerity measures and apprehensive of excessive government spending. German anxiety regarding financial prudence manifests in federal fiscal policies. In the 1990s and 2000s, German concerns grew as unification resulted in a substantial budget deficit. The German public considered the 2008 financial crisis confirmation of their fears surrounding large public deficits, and in response, German lawmakers began to seriously consider the so-called debt brake (Schuldenbremse). The debt brake constitutionally requires the national and state governments to balance their budgets. The law generally forbids German states from accumulating debt, and new federal debt cannot exceed 0.35 percent of Germany’s annual nominal GDP per year, except in cases of a significant national crisis or emergency beyond the government’s control. The amendment took effect for the federal government in 2016 and for state governments in 2020.

Advocates of the debt brake contend that this financial constraint promotes economic stability and sustainability by ensuring that unmanageable and burdensome debt is not handed to future generations. German lawmakers argued that the amendment prioritizes long-term economic health over ineffective short-term spending, increasing the resilience of the German economy during cyclical fluctuations. Christian Esters, head of the sovereign ratings department at the U.S. rating agency S&P, reflects this sentiment, stating when countries have high debt a “larger proportion of government revenue has to be spent on interest, and this reduces fiscal flexibility, for example, to react to future shocks or crises.” This logic underpinned the passage of the debt brake legislation in 2009 and continues to be a resonant argument in German politics for debt brake compliance.

The debt brake in the context of the European Union

Germany’s focus on debt minimization has often been a feature of its powerful role in the European Union. Germany’s own debt brake is well below the requirements of the Stability and Growth Pact (SGP), the EU’s fiscal framework which sets limits on government debt and deficits. Where the German rule requires new debt to not exceed 0.35 percent of the national GDP, the SGP sets annual member state debt accumulation at 3 percent of their national GDP. Germany has long pressured EU member states to adopt stricter fiscal legislation. During the sovereign debt crisis, Germany was memorably one of the most vocal supporters of Greek austerity measures. “To the German psyche,” writes Imko Meyenburg, Lecturer in Economics and International Business at Anglia Ruskin University, “austerity was the necessary antidote to a country that had lived recklessly beyond its means up until 2008.” Ultimately, Germany was considered the winner in negotiations with Greece due to a mix of its strong economic record and deft diplomatic maneuvering.

Unsurprisingly, Germany resumed its role as a relative fiscal hawk during the latest talks on the Stability and Growth Pact. Initially suspended in 2020 due to increased spending amid the COVID-19 pandemic, compliance with SGP rules was reinstated by member states in 2024. The European Commission began discussions in 2023 to outline revisions amid complaints that the SGP was too inflexible and limiting. Germany advocated for tougher and more uniform fiscal safeguards, including a minimum rate of debt reduction and a benchmark to ensure deficits remain below a specified threshold. German Finance Minister Christian Lindner in particular championed stricter fiscal regulation, stating during negotiations in October 2023, “Lowering debt levels cannot be achieved without maintaining sustainable annual deficits. While the reference is 3 percent of GDP, this is not a target but a ceiling.”

EU negotiations stalled as Germany experienced French-led pushback from other member states. In the end, Center for Strategic and International Studies fellow Federico Steinberg described the new EU fiscal rules as a “compromise between the fiscal hawks of central and northern Europe, led by Germany, and the southern countries, led by France, which insisted on the need to avoid a return to austerity in the European Union (that could cause a recession) and on the need to allow fiscal space to invest in climate transition, defense, and industrial policy.” While a deal was ultimately struck, many questions remain surrounding implementation of the new framework.

The longstanding debt brake rule, deeply rooted in German sensibilities against excessive government borrowing, now confronts serious scrutiny regarding its long-term effectiveness.

Despite Germany’s insistence on tougher EU policy, critics argue that Germany implicitly recognizes the restrictiveness of its fiscal measures and willingly circumvents them. Germany has repeatedly avoided its own debt brake rules, accumulating additional federal debt through “special funds,” which Germany’s Federal Court of Audit labeled as misleading “shadow debt.” Germany has over twenty-nine of these special funds with a total volume of 869 billion euros. To southern countries like France, Italy, and Spain who call for eased fiscal regulation, Germany’s circumvention of its own rules undermines its credibility as a fiscal hawk. To these member states, if Germany cannot meet its own rules, why should they listen to Germany on EU regulations? It remains to be seen if Germany’s debt brake troubles will harm its economic authority in the EU in the future or if this episode was an isolated incident.

Ongoing criticisms of the debt brake

Critics of the debt brake have long charged that Germans are overly concerned about the negative effects of public borrowing (a “fascination with fiscal prudence”), obscuring the potential benefits of public spending. In the eyes of its critics, the debt brake is a reflection of this paranoia, placing an arbitrary and unnecessarily stringent burden where greater flexibility is needed. These critics generally do not argue for no debt brake, but one that is more responsive and adaptive to public needs. Critics blame the debt brake for underinvestment in now-crumbling social services and infrastructure across the country; whereas the average EU investment in infrastructure from 2000 to 2020 was 3.7 percent of GDP, the German average was just 2.1 percent. These arguments are particularly compelling to Germans as “federal, state, and local governments have nowhere near the resources to address the backlog of renovation and modernization projects” needed to address aging transportation infrastructure.

Not only has the rigidity of the debt brake led to declining government investment, but some argue it is exacerbating its economic troubles. Researchers suggest that the institutional design of Germany’s debt brake not only restricts public investment but crowds out private investment as well. Underinvestment in infrastructure is further deterring private investment as investors prefer to go abroad, especially to the United States. The Berlin Social Science Center comments that aggressive fiscal spending might, in the long run, actually be associated with better debt-to-GDP ratios and economic performance. As economic growth has taken a downturn in Germany, this research fuels calls for reform to the debt brake.

Other German leaders continue to underscore the need for what they see as a pragmatic economic policy that has delivered on its promises to maintain order in Germany’s budget. Until  2020 when the COVID-19 pandemic forced the government to temporarily suspend the debt brake, Germany’s balanced budget policy reduced public debt from around 80 percent of annual GDP down to 60 percent. The ability of the government to raise spending without incurring new debt from 2014 to 2020 was seen as a defining policy for Wolfgang Schäuble, finance minister from 2009 to 2017, and a major achievement of former Chancellor Angela Merkel’s government. Current Finance Minister Christian Lindner has attempted to replicate Schäuble’s success and domestic popularity. Lindner continues to be a strong advocate for the debt brake, arguing that the debt brake is essential for stalling inflation in Germany, commenting “The debt brake is an inflation brake” in April 2024.

Among experts, opinions on debt brake reform are somewhat mixed. In a survey of economics professors by the Ifo Institute in 2023, 44 percent agreed that reform is needed. Only 6 percent of those surveyed agreed to abolish the debt brake altogether. Other economic research suggests that reform is necessary if Germany seeks to reverse its stalled economic growth. Still, the majority (48 percent) surveyed by the Ifo Institute opted to keep the debt brake in its current form. Other influential economic policy bodies, including the German Council of Economic Experts and the International Monetary Fund, have proposed debt brake reform.

New public debate and the future of the debt brake

The debt brake has attracted new attention—and criticism—in the past year after a ruling by Germany’s Constitutional Court left the country in a political and budgetary crisis. The German government took out emergency loans totaling around 300 billion euros in 2020, 2021, and 2022 in response to the coronavirus pandemic and the war in Ukraine, largely in “special funds” different from the regular federal budget. The government’s plan to repurpose 60 billion euros left over in an emergency  COVID-19 special fund to finance climate-related investments was ruled unconstitutional. The verdict threw the government in budgetary disarray and, after several rounds of tense negotiations among coalition partners, the government ultimately suspended the debt brake rule once more in 2023. The federal government narrowly resumed compliance in the 2024 and 2025 federal budgets after further tense negotiations and “infighting” between the three-way coalition.

This infighting between the traffic-light coalition parties is driven by fundamental disagreements surrounding the debt brake. Free Democrat Christian Lindner has advocated for strict adherence to the debt brake, while the Social Democrats and Greens call for more loosened restrictions in order to increase investment. It is speculated that in order to resolve disagreements surrounding the 2025 budget, the coalition once again resorted to “special funds” to fulfill the government’s spending goals. Opposition party CDU has pounced on the political moment, expressing strong support for compliance with the debt brake alongside the FDP. Because the debt brake is enshrined in German basic law, reform to the debt brake would require a two-thirds majority in the upper and lower chambers of parliament. The political divisiveness of the debt brake issue draws doubt that this burden of support could currently be met by the government.

The government has many obstacles on its debt brake tightrope, including the ongoing war in Ukraine and expanding NATO commitments. Germany will meet its 2 percent NATO spending requirement for the first time since the end of the Cold War this year. Olaf Scholz has vowed to continue to meet NATO spending goals and revamp the German Bundeswehr. These achievements are supported by Germany’s 100 billion euro special military defense fund, but this fund is set to run dry by 2028, leaving a large 56 billion euro deficit for military spending. Defense Minister Boris Pistorius has repeatedly called for greater spending for the armed forces, calling for defense spending to be exempt from debt brake rules. Ultimately, Pistorius received 1.2 billion euros of the 6.5 billion euros requested for defense. Commentators question how NATO allies, especially the United States, will react to the relatively modest rise in defense spending.

Conclusion

Navigating the path toward debt brake reforms presents formidable challenges. With expanding governmental commitments, a downturn in economic performance, and mounting international obligations, Germany finds itself at a critical juncture. The longstanding debt brake rule, deeply rooted in German sensibilities against excessive government borrowing, now confronts serious scrutiny regarding its long-term effectiveness. The dilemma lies in the unavoidable costs associated with maintaining Germany’s leadership in European security, economics, and climate investment. These roles come with substantial financial burdens that test the limits of Germany’s fiscal policy. As debates unfold, Germany grapples with balancing its traditional fiscal prudence with the imperative to adapt to evolving global demands and responsibilities.