Germany is facing major challenges. The international setting has evolved, and climate change and the digital transformation require us to adapt. This is highly demanding, but it presents opportunities as well. Government and fiscal policy have to address a wide range of issues, including the challenges posed by demographic change as well as the need to make up for shortcomings in terms of infrastructure and defence.

Fiscal policy has an important role to play in safeguarding and strengthening favourable business conditions. These include sound public finances, which build confidence in a country and are essential for it to be resilient against crises. In addition, they help monetary policymakers to maintain price stability. The debt brake has served its purpose in the past: it played a part in keeping public finances sound and ensuring compliance with the relevant EU rules. However, this does not mean that it cannot be developed further in light of past experience and changes in the underlying conditions, provided that it continues to perform the basic functions for which it was created. 

This article presents an updated version of the reform proposals put forward by the Bundesbank in 2022. These new proposals take account of the EU fiscal rules that have since been amended as well as the greater challenges in terms of infrastructure and defence, though they are, of course, unable to take into account discussions that are still ongoing at the EU level. Now as then, these proposals have sound public finances as their objective. They are centred on the 60 % reference value for the debt ratio enshrined in the EU Treaties. They differ from the existing debt brake rules in that they envisage greater scope for borrowing, though much of this is reserved for additional fixed asset formation. The proposals mainly concern central government’s debt brake, but the additional investment needs of state and local government are also taken into account. Other elements of the proposals are designed to facilitate steady fiscal policymaking without weakening the binding effect of the rules. 

The proposed reform can play a role in overcoming the current challenges. It remains crucial, however, for government to gear its fiscal policy priorities decisively towards the specific challenges that we face today. This would entail reviewing its revenue and expenditure as well as making efficient use of its funds. 

The Bundesbank presented proposals for reforming central government’s debt brake back in 2022. These proposals are developed further in this article. Now as then, it remains crucial for the debt brake to safeguard sound public finances. 2 At the same time, the proposals take account of the reformed EU fiscal rules. They expand the scope for borrowing and now have a greater focus on the 60 % reference value for the debt ratio enshrined in the EU Treaties. In addition, the proposals specifically reserve borrowing scope for additional fixed asset formation as a way of strengthening infrastructure and defence (more details on additionality and definitions can be found in the section entitled “Strengthening investment”). Other aspects support the objective of steady fiscal policymaking and help to ensure the binding effect and transparency for the federal states’ debt brakes as well. In order to implement the reform proposals, Germany’s Basic Law (Grundgesetz) would need to be amended. 

At their core, the new proposals envisage higher ceilings for structural net borrowing – above all for more government investment. These ceilings would vary depending on whether the debt ratio is above or below 60 %. In addition, a fixed portion of the scope for borrowing would be reserved for more government investment. If the debt ratio is above 60 %, the ceiling must be determined such that it brings the debt ratio back below 60 %. In this case, the scope for borrowing would therefore be smaller, though not to the detriment of the portion reserved for investment. In this way, the proposals concerning the borrowing ceiling aim to safeguard sound public finances and the core of the EU fiscal rules. 3

Supplementary elements aim to improve the transparency of public finances, strengthen the binding effect of the debt brake and provide support for steady fiscal policymaking. On the one hand, the debt brake needs to be effective in its implementation if it is to safeguard sound public finances. On the other hand, it needs to facilitate steady fiscal policymaking at the same time. Central and state governments should apply uniform approaches based on the national accounts in cases where they exclude transactions or entities from their debt brakes. Ultimately, only acquisitions of recoverable financial assets (i.e. financial transactions) and entities that are sufficiently non-governmental in nature (unlike off-budget entities, which belong to the government sector) should be excluded. Linking the rules closely to the national accounts would make them more transparent and more effective. Steady fiscal policymaking means, not least, avoiding the need for abrupt and procyclical consolidation wherever possible. This concern is addressed, in particular, by the proposals regarding cyclical adjustment and the reserves. 4 While such elements are indeed somewhat more demanding in terms of their design and application, they do follow transparent and comprehensible accounting rules. From the Bundesbank’s perspective, elements like these would round out a reform.

The current constitutional requirement to draw up amortisation plans for emergency borrowing could be weakened or omitted in future. To anchor the debt ratio at 60 %, the Bundesbank is proposing that the borrowing ceiling would be lower when the debt ratio is higher than 60 % (see above). To this extent, additional rules governing the repayment of emergency borrowing would be less of a priority, in the Bundesbank’s view, especially when the debt ratio is still below 60 %. Instead of omitting mandatory repayment plans altogether, these could also be limited to instances when the debt ratio is above 60 %.

For a stability-oriented monetary union, it is vital that Germany, in its capacity as a fiscal anchor, consistently complies with EU rules. It would make sense to assign the key role for this within Germany to central government. This would be conditional, of course, on the national rules preventing the other levels of government from accumulating new debt to any significant degree. This approach makes sense for two reasons. First, central government would, in future, probably exert a significant influence over which specific EU requirements apply to Germany (ownership). This is because a key element of the new EU fiscal rules are multi-year fiscal plans negotiated by Member State governments and the European Commission. In this respect, they significantly strengthen the role of central government. Depending on how consistently the other levels of government are able to comply with their relatively tight budgetary rules, central government can independently take any remaining action needed to satisfy EU requirements. Second, EU rules are highly complex and subject to interpretation. This makes it difficult for entities not involved in the negotiations to identify exactly what action needs to be taken. Another aspect of a coherent overall concept is that new borrowing at the EU level should be counted towards the debt brake going forward.

The reform proposals expand the scope for borrowing. However, if the debt ratio is above 60 %, the scope is reserved for investment, which is why there is a greater need for adjustment for the consumption portion of budgets initially. The quantitative presentation of the proposed debt brake shown in the penultimate section illustrates the changes in the scope for borrowing depending on the level of the debt ratio. That part of this article also provides a comparison with the rule as it currently stands as well as possible EU requirements.

The reform proposals envisage a staggered ceiling for structural net borrowing under central government’s debt brake. The ceiling would depend on whether the debt ratio is above or below 60 %. This turns the 60 % reference value from the EU Treaties into the principal anchor of the debt brake. It is also in line with the reformed EU rules’ objective of ensuring resilient and sound government finances by giving greater consideration to this reference value. 

Specifically, the following ceilings could apply to central government’s structural net borrowing: 

With these ceilings on structural net borrowing, compliance with the 60 % reference value for the debt ratio should be safeguarded quite reliably. Social security funds are not permitted to accumulate any debt at all, state governments are not permitted to accumulate any further structural debt, and local government borrowing is tightly limited by state government budget rules. A structural general government deficit ratio of almost 1½ % should stabilise the debt ratio at just below 60 %. If the debt ratio is above 60 %, the more ambitious borrowing ceiling for central government aims to bring it back below 60 %, even if growth in nominal gross domestic product is only comparatively weak. 

The new investment component of the debt brake is intended to help government expand its investment and stabilise it at a higher level. There is broad consensus that Germany needs to invest more in its public capital, such as infrastructure and defence. 6  It has been shown that central, state and local governments tend to defer investment rather than consumption spending. This likewise suggests that financial resources should be specifically ring-fenced for investment. With this aim in mind, the proposals tie the structural scope for net borrowing by central government in the amount of 0.9 % of GDP to additional investment. This is intended to help boost infrastructure and defence spending and stabilise it at a higher level. 

The investment component should also finance central government grants for additional investment by state and local governments. 7  State and local governments account for a large share of infrastructure expenditure. 8 Specifically, one-third of the investment component for central government could be reserved for investment grants to state governments. 9 The state governments could also use these central government funds to disburse investment grants to their respective local governments. Investment grants of 0.3 % of GDP would correspond to around €15 billion, or one-fifth of the current fixed asset formation by state and local governments. Central and state governments could also spend a portion of the funds on digitalisation projects standardised at the national level. There is an apparent need to make up for shortcomings in this area, too.

There is a strong case for avoiding too broad a definition of the term “investment”. For example, the investment component could be limited to fixed asset formation (including military procurement) at the central, state and local government levels. However, it is not just the core budgets that should be considered here. For example, as the rail networks are paid for by off-budget entities belonging to the general government sector as defined in the national accounts, investment in these networks should be included. By contrast, the financing of investment grants to private sector firms via the investment component should not be permitted. Under certain circumstances, legislators could additionally set fixed shares for individual categories (e.g. a specific percentage of GDP for investment in military equipment).

For ease of implementation, the proposal regarding the definition of investment that is eligible for credit financing is no longer aimed at net government investment. It would technically make sense to tie credit financing to growth in government non-financial assets. Thus, credit financing would have to be tied to net investment (i.e. gross investment less depreciation), which was an argument made by the Bundesbank in 2022 with regard to general government. However, it is important to acknowledge that this approach is not easily applicable to individual state or local governments. 10 Even for central government, it is difficult to plan net investment when preparing the budget. In particular, depreciation in the national accounts is based on replacement values and is therefore heavily dependent on sectoral price developments. As a pragmatic alternative, the Bundesbank therefore proposes using figures for fixed asset formation by general government set out in line with the budgetary definition and, above all, safeguarding the additionality of spending in each case. 

Credit financing should be permitted for investment if it increases the associated investment ratio relative to a base value (condition of additionality). To this end, it would be appropriate for the level of central government investment to be oriented around a level of investment from the recent past (expenditure financed via the Armed Forces Fund could be excluded, as otherwise it would be unnecessarily difficult to fulfil the criterion of additionality). This level would have to be set in relation to nominal potential GDP. This ratio, e.g. for 2024 (or an average of the last three years, for example), would be the base ratio. 11 As part of its investment component, central government would then be permitted to finance investment through borrowing if and insofar as it raises the given defined investment ratio for the respective year above the base ratio. Therefore, in this regard, credit-financed investment must be additional and cannot simply replace investment financed via the budget. State governments, too, would have to demonstrate that, with credit-financed funds for investment purposes from central government, they can correspondingly raise a similar investment ratio for their own and their local governments’ fixed asset formation. 12 A federal state would request the funds on the basis of budget plans, while final settlement would ultimately be based on the investment ratios. State governments could apply the same procedure to the grants that they pass on to their respective local governments.

The rules do not stipulate a specific level of government investment. First, central and state governments are also able to expand their investment to a markedly greater degree if they deem this to be necessary. However, they would not be able to finance this investment through additional debt because central government’s structural net borrowing remains capped (and structural net borrowing at the state government level is prohibited). Second, central and state governments would not have to borrow or draw on borrowed funds if, at a given point in time, they assessed the need for investment to be lower. 13

In order for the investment component to actually have a positive impact, it is crucial to reduce non-financial barriers to investment and invest funds efficiently at the same time. For example, there are bottlenecks, some of which are persistent, on transport routes. It is essential that these be resolved. There appears to be some room for improvement with respect to planning and approval processes as well as the execution and monitoring of investment projects. This applies, not least, to legal proceedings, which often entail lengthy delays. In recent years, central, state and local governments had financial leeway, but they did not use it sufficiently to make up for lagging fixed asset formation. In this respect, the catching-up that needs to be done is not a result of the borrowing ceiling under the current debt brake, and greater budgetary scope for investment would, on its own, probably not be enough to quickly close this gap. 

In the proposal, the scope for borrowing narrows if the debt ratio is above 60 %. The idea is for the staggered ceiling to be designed in such a way that budget planning and implementation are as steady as possible, even at this reference value. In order to be permitted to use the additional scope (base borrowing) for the forthcoming budget, it could suffice if the debt ratio (1) were below 60 % in the year preceding the preparation of the budget or (2) would be below 60 % in the coming year according to an independently certified government forecast. By contrast, base borrowing would not be available if the 60 % reference value had been exceeded in the past and were likely to be exceeded in the future. This would therefore not come as a surprise and, instead, fiscal policy could prepare for it. Regardless, it would be advisable for fiscal policy to maintain a certain safety margin against the 60 % reference value. By doing so, fluctuations in the debt ratio – owing to cyclical weakness, for example – would not result in the reference value then being exceeded. 14

To support steady fiscal policy, central government could also add an error component to its cyclical adjustment. This would mean that unexpected developments would need to be corrected only after a time lag. The Bundesbank already proposed this back in 2022. 15   With an error component, unexpected negative developments would not need to be corrected immediately, but only after a time lag (and unexpected positive developments would open up additional scope only after a time lag). This facilitates steady budget planning, and the deficit would thus tend to develop countercyclically. The EU fiscal rules also make allowance for unexpected developments in tax revenue. 16

Reserves can also support steady fiscal policy. A reform could stipulate that central government use borrowing authorisations that have not been used for payments (insofar as they are under the borrowing ceilings) to fill reserves. By making subsequent withdrawals from these reserves, it can then, over time, make full use of its borrowing scope to the extent permitted by the debt brake, taking account of the additional safeguard of the 60 % reference value (see the following section for more information). In other words, reserves of this nature do not run counter to the objective of effectively limiting debt. A certain degree of flexibility over a multi-year period is also consistent with EU rules, which use a control account to record deviations above or below the net expenditure path during the planning period. 

Central government should not be able to use the reserves to undermine the two fundamental principles of the borrowing ceilings: first, that scope for borrowing is tied to specific purposes and, second, that base borrowing is no longer available when the debt ratio is above 60 %. 

The obligation of central government to adopt repayment plans for emergency borrowing (and for the debt of the Armed Forces Fund) could cease to apply or only apply to a limited extent. At present, the Basic Law stipulates that amortisation plans must be adopted for emergency borrowing. This rule is intended to ensure that, over time, debt returns to the path permitted by the borrowing ceiling. The proposals presented here follow a different approach. In line with the EU Treaties, they are based on the 60 % reference value as a key anchor for ensuring a sufficiently sound position. They therefore calibrate the borrowing ceilings such that a debt ratio above 60 % relatively reliably falls back below 60 %; for this reason, base borrowing in the amount of 0.5 % of GDP is then no longer available. Repayment plans would thus be unnecessary, and they are also not required with respect to EU rules. However, the repayment rule for emergency borrowing could play a role in returning below the 60 % reference value more quickly. An interim solution would be to dispense with the repayment requirement only if the debt ratio is (back) below the 60 % reference value.

If, however, central government receives back funds for crisis measures that it had previously financed through emergency borrowing, it should be required to use these return flows for repayments. This scenario materialised in 2024: central government received repayments of crisis assistance funds that it had granted in previous years and had financed using emergency borrowing. It makes sense to use such repayments to repay emergency borrowing, as happened in 2024. Otherwise, central government could misuse emergency borrowing in subsequent years to close gaps in the budget or to finance additional expenditure.

The proposal significantly raises the ceilings for structural net borrowing. This is another reason why it is advisable, in return, to reduce discretionary scope that runs counter to the binding effect of the debt brake. For example, the draft central government budget for 2025 envisaged converting investment grants to Deutsche Bahn into capital injections (financial transaction). This raised questions from an economic perspective. 17  

Against this backdrop, central and state governments should define financial transactions and entities to be included in their debt brakes in addition to the core budget in a way that is consistent with the national accounts. The national accounts are a good point of reference, as they capture transactions and entities in a way that is economically well-founded. They delineate deficit-neutral shifts in government financial assets more reliably, and the EU fiscal rules also use this as a foundation. At present, central government and the individual state governments adjust their borrowing ceilings very differently in some cases when it comes to financial transactions. In addition, they also define the group of entities included (e.g. public undertakings belonging to the general government sector) very differently. This limits transparency and, under certain circumstances, burdens are simply “outsourced” away from the relevant debt brake. Financial transactions (e.g. capital injections) should therefore only be excluded from the debt brakes if they are recorded in the national accounts as having a deficit-neutral overall effect; this does not apply to transfers to offset losses or capped investment grants. In addition, all entities that belong to the general government sector in the national accounts should also be subject to the debt brakes. By contrast, public undertakings that are part of the private sector in the national accounts would not need to be included in the debt brake. 

It remains essential to ensure that Germany complies with the EU fiscal rules alongside its national fiscal rules. This supports a stable monetary union and a stability-oriented monetary policy. If Germany strictly applies the EU rules to its own finances, it can credibly advocate for others to do the same. This is of key importance given the very high debt and deficit ratios in the euro area in some cases. At around 90 %, the debt ratio for the euro area as a whole is currently only 5 percentage points lower than at the height of the euro area debt crisis in 2014. Excluding Germany, the average debt ratio is as high as 100 %. Moreover, there is no reduction in sight in the short term. This is particularly true of the especially highly indebted countries Belgium, France and Italy, which have deficits that are still well above 3 % in some cases.

To ensure compliance with the EU fiscal rules, Germany’s national fiscal surveillance must be effective. This holds, in particular, if central government’s debt brake no longer provides a substantial safety margin against the EU requirements for general government (see the section entitled “EU requirements additionally need to be met”). At present, budgetary surveillance is primarily organised via the Stability Council, but implementation is patchy. The Bundesbank and the Independent Advisory Board to the Stability Council have submitted proposals on how the surveillance of general government finances in connection with the debt brakes could be improved. 18

There is much to suggest that central government should assume responsibility within general government for Germany’s compliance with the EU rules. This would entail central government adjusting its budget to comply with the EU rules, if necessary – even if this means overfulfilling the requirements of its own debt brake. Under the new EU rules, annual requirements are formulated on the basis of general government expenditure growth. There are two arguments in favour of giving central government responsibility within general government for Germany’s compliance with the EU rules. First, central government already holds this responsibility in Germany’s external relations, i.e. with the EU. Second, central government is likely, in future, to exert a significant influence over which specific EU requirements apply to Germany (ownership): it negotiates the ceilings with the European Commission. Central, state and local governments also consider it difficult to attribute breaches of the expenditure growth ceilings to individual levels of government. The proposal could circumvent this difficulty. 

Greater central government responsibility necessitates effective rules at the other levels of government. This would be supported, amongst other things, by the aforementioned recommendations on financial transactions and entities included under the debt brake as well as on budgetary surveillance. If the other levels of government are at risk of failing to comply with their obligations, they are individually subject to the consolidation requirement. It would also be highly desirable for the state governments to harmonise their debt brakes and use, for example, a uniform procedure for cyclical adjustment. The current disparity in the methods they apply is a substantial impediment to the transparency of state government finances.

Central government might need to respond fairly quickly to ensure general government compliance with the EU rules. Extensive, short-term spending cuts are more difficult if investment is to remain at a similarly high level and expenditure is already well prioritised. In this situation, adjustments on the revenue side are the more obvious instrument for an initial short-term response. The state governments are entitled to a say in the major levies and, like local governments, receive their portion of any additional revenue. If central government is solely responsible for ensuring compliance with the EU rules, it would therefore be worth considering the option of providing it with a flexible revenue instrument that distributes burdens relatively broadly. This could, for example, take the form of a temporary right to impose a surcharge on joint taxes for this specific purpose. 19 The additional revenue would flow to central government alone, and the financial distribution of regular revenue from joint taxes between central, state and local governments would remain unchanged. To prevent the surcharge on joint taxes from becoming entrenched, it could be constitutionally limited in duration (e.g. to two years) and in size. Central government would have to use this limited timeframe to achieve sustainable consolidation should the pressure to do so persist. This could then also include expenditure that is not available for adjustment in the short term.

It would be logical for the debt brake to take account of EU-level debt incurred to fund transfers and other expenditure affecting the deficit. The EU fiscal rules focus on national public finances. This makes sense provided that there are no sizeable deficits or debt at the EU level. Otherwise, however, the national fiscal rules are at risk of being overly narrow and failing to fulfil their actual objective. In NGEU, the EU already has a temporary but extensive debt-financed programme that also funds transfers. A number of other debt programmes are also being brought into play. In future, the debt brake should therefore take equal account of European and national debt: it is intended to effectively limit Member States’ debt burdens irrespective of the level at which such debt is incurred.

The change should apply to any future EU debt programmes. For these, Germany’s financial share in EU borrowing for deficit-affecting disbursements (notably including transfers) would then have to be deducted in the respective year from the debt brake borrowing ceiling. And, in principle, the debt brake’s 60 % trigger would have to be calculated incorporating such future EU debt. 

The proposed reform would necessitate very broad support in the Bundestag and the Bundesrat because it would require Germany’s Basic Law to be amended. The approval of two-thirds of the members of the Bundestag and two-thirds of the votes in the Bundesrat would be needed. This applies, for example, to the new borrowing ceilings, the repeal of the repayment plan requirement or the shift in responsibility within general government for compliance with the EU rules. In addition, secondary laws would need to be amended, too. 

A reform would also require a decision regarding the extent to which new provisions should be enshrined in constitutional law. Doing so would offer a high level of protection, as reversing the changes would then only be possible with broad majorities. Furthermore, eligible parties would have recourse to the Federal Constitutional Court should they fear that legislators are undermining the rules in their practical application. With regard to the reform proposals, it would also make sense for the additionality of debt-financed investment to be enshrined in the Basic Law. Besides sufficiently protecting the reform objectives, it would be important, at the same time, to ensure that future legislators are not hamstrung by very detailed, and partly technical, elements of the debt brake in the constitution.

A debt-financed special fund could be an alternative to a fundamental reform of the debt brake, but it would also have a number of disadvantages. A (potentially temporary) special fund can be viewed as a way of leaving the core of the existing debt brake unchanged as far as possible, thus making it easier to implement. However, a fundamental reform of the debt brake would have the prospect of long-term viability, thus affording greater planning certainty than a temporary special fund. Moreover, offloading expenditure to the special funds is less transparent than showing all spending in the budget. 20 It is all the more important to maintain a comprehensive overview of central government finances due to the fact that the reform proposals will exhaust the scope set for general government by the reformed fiscal rules at the EU level (see the section entitled “EU requirements additionally need to be met”). 

The debt brake reform proposal presented here could be implemented in the Basic Law in an economically similar fashion by means of a special fund. This special fund would then complement the existing (or only slightly modified) debt brake and could be temporary. Many of the reform elements discussed here could be taken into account. 

As things currently stand, it is becoming apparent that Germany and the other EU Member States will have to substantially increase their defence spending in a timely manner. It is not yet clear what this means in terms of volume or timeframe. There is discussion at the EU level about granting Member States temporary additional scope for deficits in order to increase defence expenditure. Were this to be agreed, Germany could top up and expand the Armed Forces Fund. The reformed debt brake could then exist in parallel with an increased Armed Forces Fund for a period of time, and the underlying borrowing ceilings would not have to be temporarily adjusted. Insofar as the debt ratio remains higher than 60 % for longer as a result of additional borrowing by the special fund, base borrowing will be unavailable for a correspondingly longer period of time. In addition, should the need for high defence spending persist, it would be important at the EU level to ensure that debt ratios remain anchored by the EU fiscal rules. 

If there is no reform, central government’s scope for deficits will remain fairly high to start with, but will decline significantly, particularly from 2028 onwards. Central government will still be able to borrow very extensively in the Armed Forces Fund in the current and coming years. Furthermore, it still has considerable reserves in the core budget and in the Climate Fund. In the following, it is assumed that central government uses up these reserves by the end of 2025 and exhausts the Armed Forces Fund’s borrowing authorisations by the end of 2028. 22 Repayment obligations starting in 2028 for emergency borrowing during the coronavirus and energy crises will also reduce the scope for borrowing. 

Legislators decide when and with which provisions a reform will enter into force. For example, it is assumed that the proposed reform will enter into force in 2026. Legislators could also bring the reform into force at a later date, possibly in conjunction with transitional arrangements. It would, however, be necessary to ensure that Germany complies with EU requirements.

The chart below depicts the scope for central government’s structural deficit if, for example, the reform enters into force in 2026 with the parameters presented above. Here, it is assumed that the reform will abolish the Armed Forces Fund’s residual borrowing authorisations and the repayment requirements for its debt as well as for emergency borrowing.

In the example, the reform significantly increases central government’s scope for borrowing compared with the status quo (see Chart 2.1). However, this scope depends on whether the debt ratio is above or below 60 %. If the debt ratio is lower than 60 %, the scope for borrowing increases by a cumulative amount of around €220 billion compared with the status quo up to 2030. In this case, the new borrowing ceiling under the reform allows for annual structural net borrowing of 1.4 % of GDP. If the debt ratio is higher than 60 %, the annual scope amounts to 0.9 % of GDP. It is around €100 billion higher than the status quo until 2030 in cumulative terms. It should be noted that, in the proposals, parts of the borrowing authorisations are reserved for additional investment (including investment grants to the federal states). If the debt ratio is higher than 60 %, then the scope for borrowing for consumption spending narrows markedly.

Compared with the structural deficit of central government and its special funds in 2024, its budgetary scope does not change substantially. This is because central government was able to use extensive reserves in 2024 alongside net borrowing from the core budget and the Armed Forces Fund. In addition, the reform proposals aim to shift budgetary allocations in favour of investment expenditure. Even if the debt ratio is below 60 %, the scope depicted is therefore reserved, to a large extent, for investment (in some cases in the form of grants to the federal states) and is associated with elevated investment ratios. In order to be able to utilise this scope, central government needs to stabilise its investment in the core budget and expand defence expenditure in the latter somewhat further. Only then would it exceed the baseline level of investment described above (see the section entitled “Strengthening investment”) and be able to borrow for investment purposes.

With the proposed reform, scope for borrowing will depend on whether the debt ratio is above or below 60 %. At present, the debt ratio is higher than 60 % and is approaching the ceiling. It stood at 62.4 % at the end of the third quarter of 2024. According to the Bundesbank’s forecast, it is set to decline to 61.7 % by the end of 2027. This forecast is based on the fiscal status quo. The EU requirements established to date (and the current debt brake) are therefore likely to be breached. Assuming compliance with the rules, the ratio would approach the 60 % level more quickly. Generally, the development of the debt ratio depends on the deficit, nominal GDP (in the denominator) and shifts in financial assets (deficit-debt adjustments). 

These deficit-debt adjustments mean heightened forecast uncertainty, not least because of the related room to manoeuvre. For example, central government holds relatively large cash reserves, for which it took out debt. Tighter reserve management would result in lower debt. 23 In addition, central government holds large-scale participating interests without exerting controlling influence. If it privatises these participating interests, it generates revenue with which debt is to be repaid in accordance with the provisions of the debt brake. Participating interests that central government parks with KfW are already largely recorded in the budget as having been sold. In the Maastricht debt level, however, the proceeds from KfW are recorded as increasing debt. By selling the parked participating interests in full, central government could therefore lower its debt level by their market value (given significantly lower privatisation proceeds in the budget), thus not least increasing the transparency of public finances. The EU has also stipulated that central government must sell off most of its participating interests in the energy company Uniper by 2028.

It is not yet entirely clear how much fiscal leeway Germany will have based on the EU rules. This depends on what medium-term fiscal plan the new Federal Government agrees with the European Commission and the Council. The plan will probably start in 2025 and will run for four to seven years. As the rules leave room for negotiation in terms of the period that the plan should cover as well as other aspects, any estimate of fiscal leeway is subject to uncertainty. In addition, temporarily granting EU Member States additional leeway to finance higher defence expenditure is under discussion.

The EU rules relate ex ante 24 to the general government deficit as defined in the national accounts. Unlike the debt brake, they do not target net borrowing in the budget. They relate not only to central government, but also include state and local government as well as social security funds. The national accounts rules also determine whether transactions must be recorded as financial and thus in a way that does not affect the deficit. And they determine which entities are included in the government sector as off-budget entities and thus do influence its deficit. In the following, an attempt is made to quantify future EU requirements for Germany without taking into account possible special rules for defence expenditure. Some of the data are based on the Bundesbank’s December fiscal forecast, 25 with the estimate of structural variables based on procedures similar to those used within EU budgetary surveillance (see Chart 2.2): 

Chart 2.2 makes it clear that the reformed borrowing ceiling under the debt brake is, in principle, in line with probable EU requirements, but that it exploits them to a large degree. It is therefore not advisable to loosen the borrowing ceiling of the debt brake more than proposed. Otherwise, there would be persistent potential for conflict between national and European requirements. Germany should avoid such potential for conflict. Germany must comply with EU requirements irrespective of national requirements. It is therefore possible that the leeway offered by the debt brake cannot be fully utilised. The chart depicts such a case for 2028 with a debt ratio above 60 % and a four-year plan for the EU rules: at just over 1 % (left-hand chart), the general government deficit resulting from the permissible net borrowing under the reformed debt brake in 2028 exceeds the ceiling in a four-year plan under EU rules (right-hand chart). 

The reform proposal for the debt brake is not aimed at fully replicating the EU rules. The national rules must provide fiscal policy with a binding, transparent borrowing ceiling. The EU rules do not do this: as applied, they relate to the growth in a general government expenditure variable. Consequently, the reform proposal does not directly tie new borrowing by central government and the individual federal states to the presumed EU requirements. This is especially true given that the European Commission’s recommendations have a considerable impact on how the rules are interpreted and future Federal Governments will renegotiate the requirements repeatedly. Overall, there is much to be said for independent national rules that ensure sound public finances in a reliable and verifiable manner, provide fiscal policy with clear guidelines and, as far as possible, avoid conflicts with EU rules. This also creates confidence in German public finances and ensures favourable financing terms. 

The proposed reform does not absolve central, state and local governments of the need to adjust their budgets in terms of consumption. Even taking into account the reform proposals, both the Bundesbank’s forecast and central government’s medium-term planning indicate a need for consolidation. The potential for deficits may be larger under the proposals, but mainly for additional investment. If the debt ratio exceeds 60 %, the scope for borrowing for consumption purposes even decreases. The proposals, therefore, still include the need for budget adjustments. Central, state and local governments must also create the leeway to stabilise their investment expenditure to be financed without borrowed funds. 

The proposals support a clear expansion of investment. However, a certain lead time is probably needed if the additional funds are to be spent efficiently. The time required to expand investment can be explained by the need for central, state and local governments to prepare, tender and implement projects. In this context, they are likely to encounter capacity bottlenecks in some cases, both in administrative and judicial terms and amongst the enterprises involved. The aim must also be to prioritise projects that are particularly advantageous for the economy as a whole. Moreover, additional government expenditure should not evaporate because capacity bottlenecks cause prices to rise, which is another argument for gradually building additional investment volume. What matters is that the reform sustainably supports higher real investment.

The reform can help to overcome the current challenges without jeopardising sound public finances. However, additional scope for borrowing for investment purposes is not sufficient. General government’s role goes much further than that. It is crucial that general government aligns its priorities on the expenditure and revenue sides with the challenges it faces and uses the funds efficiently and in a targeted manner. 

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