Economics Update November 2023 - The ongoing dispute over a reform of the debt brake is not expedient

The discussion about a possible reform of the debt brake has become an ongoing topic. The regulation was included in the German Basic Law in 2009 to prevent excessive federal and state debt and thus financially overburdening future generations. For some months now, there has been a controversial debate within the government and among economists as to whether certain exceptions to the rule should not be possible in order to give the state additional financial leeway. The argument is that explicitly future-oriented investments, whose future earnings will also benefit future generations, should be exempt from the debt regulation. One example would be investments in connection with climate protection, such as expanding the infrastructure required for the use of renewable energies or promoting the production of green hydrogen. From an economic perspective, this argument is understandable because there is indeed a conflict of objectives between protecting future generations from financial overload on the one hand and protecting them from the consequences of climate change on the other. The decision as to which goal has priority could and should be brought about in political discourse and not be dictated by a rigid regulation in the Basic Law.

Clear distinction needed between government investment and consumption

However, opponents of making the debt brake more flexible rightly point to foreseeable political practice in their arguments: would it really be possible to make decisions like the one above with a more flexible regulation without opening the floodgates to unchecked debt? After all, the lax handling of the Maastricht criteria for limiting government debt in the eurozone has shown how easily such regulations can be undermined. It must also be clear which expenditure can be counted as investment in the narrower sense. A simple example from recent months shows that the answer to this question is by no means trivial: Family Minister Paus presented the planned basic child protection as an investment in the future, because it increases the chances that the beneficiary children will later pay taxes and not become transfer recipients themselves. Regardless of how conclusive this argument is, there is probably broad agreement among economists that the basic child protection scheme is not an investment, but rather social expenditure and therefore state consumption. If a reformed debt brake of any kind were to allow higher debt for this project, it would actually amount to a de facto abolition of the debt brake.

Financial leeway is created primarily through growth

In practice, the discussion about the debt brake has been going round in circles for some time because the chances of achieving a two-thirds majority to amend the Basic Law are slim. It would therefore be helpful to focus more attention on growth again. If the German economy had not stagnated since the end of 2019, but had grown as in almost all other countries, the German state would also have significantly more tax revenue available for spending. The approximate order of magnitude can be estimated by comparing the tax revenue forecast for 2023 in 2019, i.e. before the coronavirus pandemic, with the actual tax revenue to be expected, taking into account the inflation that has occurred in the meantime, which was not included in the calculations of the Tax Estimation Working Group at the time. The difference is around 30 billion euros. The federal and state governments could therefore spend 30 billion euros more this year (and next) without breaching the debt rules if the German economy were to show positive growth instead of continuing stagnation. The discussion about actually sensible and necessary projects would be considerably simplified if the scope for distribution were greater in this way. As you can see: Climate protection and growth are by no means opposites, as is often portrayed, but are in some ways mutually dependent.

Restoring the conditions under which greater economic growth is possible is itself an arduous undertaking, but in any case seems more worthwhile and forward-looking than the ongoing dispute over reforming the debt brake.