Why Germany's government can't agree on debt rules
Why Germany's government can't agree on debt rules
Some in Olaf Scholz' cabinet want to take on big new debts to pay for climate policies. Others see debt as a danger to German wealth.
Dear Reader,
One of Olaf Scholz’ final acts as finance minister in Angela Merkel’s last government came after the 2021 election had already been held.
In October 2021, he decided to move €60 billion of unused funds from an emergency budget established to tackle the fallout of the pandemic into a fund for managing the transition to “green” technologies.
Scholz had just scored a narrow victory over the CDU at the national election, winning 26 percent of the vote to 24 percent for the conservative party.
The win was hardly overwhelming. To secure his place in history among the likes of Konrad Adenauer and Willy Brandt, Scholz would need to knit together a unique three-way coalition involving his Social Democrats (SPD), the Greens and the Free Democrats (FDP).
But the three parties had very different agendas.
The Greens wanted to plough public money into a radical overhaul of the energy system, while the SPD planned to push up welfare payments and cling on to the increasingly costly pension system.
Both agendas would have meant taking on big new debts or raising taxes.
They also needed to accommodate the Free Democrats though, a free market party built on tax cuts and fiscal discipline. The FDP wanted a return to the Schuldenbremse (debt brake) - Germany’s constitutionally enshrined limit on public debt - after two years in which it had been suspended to pay for Covid lockdowns.
Scholz had a problem.
How could he finance the spending plans of the SPD and Greens while simultaneously allowing the FDP to bring back the Schuldenbremse?
His answer? Transfer funds that had been signed off for fighting the pandemic into a new climate fund.
The original fund had been created during a crisis in which the Bundestag voted to suspend the ‘debt brake’. Unusually, that gave the government the ability to take on almost unlimited new liabilities outside of the normal budget. These debts are called Sondervermögen (special budget) and aren’t included in the debt brake calculations.
By pushing unused billions from these funds into the next legislative period, Scholz was able to to ensure that money would be there to spend outside of the constraints of the normal budget.
Thus the FDP could claim that they were bringing back the Schuldenbremse, while the Greens had access to an enormous pot of cash to spend on subsidies that would cover the costs of the transition to renewable energy (by loading them onto future generations).
It was a sleight of hand that Scholz, his finance minister, Christian Lindner (FDP), and climate minister Robert Habeck (Greens), no doubt found very clever.
The first problem was that it never convinced voters.
Lindner’s boast that he had brought back fiscal discipline simply didn’t square with the news that Germany had taken on so much new debt in the past three years that it accumulated to two thirds of all the debt taken on in the seven decades of the post-war era before it.
And, in the end, the fact that the debt brake had returned on paper meant little in practise. That’s because special budgets are special in name only. In reality, they follow the same rules as all public debt. They come with interest payments and, by pumping large sums of cash into the economy, they aggrivate inflation.
Thus, it is no surprise that the FDP - self-proclaimed party of economic sobriety - are now wallowing on six percent in polling, well below the 11 percent they won at the 2021 election.
Much more significantly though, Scholz’ little fiscal trick was also carried out in breach of the German constitution.
Last week the country’s top court, the Bundesverfassungsgericht, came to the damning verdict that the repackaging of the funds breached three separate constitutional principles. Most importantly, the judges said that a government can’t just write itself an enormous cheque during a crisis year and then use it for all sorts of different purposes further down the line.
While the wording of the judgement was sober, the message was clear: such tricks make a mockery of laws which prevent governments from burdening future generations with excessive debt.
The ruling has completely paralysed the government. It not only leaves a €60 billion hole in the financing of climate subsidies, it also raises questions about the viability of €150 billion in Sondervermögen that the government created last year to cap electricity prices in the wake of Russia cutting off gas supplies.
Like squabbling siblings who have just heard that Aunt Mable cut them out of the will, the coalition partners now have to agree on how to live within more humble means… or find new sources of money.
The FDP (the distant older brother) are demanding cuts to welfare. The SPD favour raising taxes on the rich, while the Greens (the dreamy younger sister?) want to scrap the debt brake and bankroll a future in which we commute to work on hyrdogen-powered penny-farthings.
Most telling has been the reaction of some government ministers who claim to be such fans of the rule of law.
That the constitutional court ruled on this issue at all was due to the fact that the opposition MPs from the CDU decided to challenge the climate fund in court.
“If we fall into another crisis, we won’t be able to cap prices and people’s energy bills will go up,” fumed climate minister Habeck this week. “People can send their letters of thanks to the CDU.”
In other words, subsidising Habeck’s energy policies trumps the rule of law.
As the CDU were quick to point out, perhaps Habeck should have thought about the consequences before he joined a government whose financial foundation was built on three (!) separate breaches of the constitution.
Now, Habeck’s pet projects of billion-euro subsidies for people who want to buy heat pumps, and multi-billion euro subsidies to convince heavy industry not to migrate abroad given how expensive German energy is, are hanging by a thread.
Among economists, reactions to the ruling have been mixed.
Some see it as a blessing in disguise.
Veronika Grimm, one of the so-called Wirtschaftsweisen (economic wisemen) - an elite group of economists who advise the government - welcomed the fact that the government may now be forced to ditch Habeck’s green subsidies, saying that they should be replaced with higher carbon taxes.
“We urgently need policies that promote growth,” she told Der Spiegel. “This cannot be achieved with subsidy programmes. It requires market mechanisms that stimulate growth and innovation. That won't work with a government that tries to bend the rules and is then curbed by judges.”
Others, though, say that it is time to tweak the debt brake rules to give governments more leg room to tackle slow-burn crises like climate change.
Several economists have proposed a change to the rules that would give Berlin more flexibility to take on debt for investments in infrastructure - i.e. projects that won’t supply the quick highs that influence a four-year election cycle - while maintaining limits on other debt.