This report does not constitute a rating action.
Germany's public finances are facing major changes. Although less than two weeks have passed since the general election, the leaders of Germany's likely coalition parties have already proposed substantial amendments to the country's stringent debt brake. These amendments could change Germany's fiscal path over the next few years.
What's Happening
The German debt brake legislation has constrained public investment and the fiscal policy to offset the economic contraction that Germany has been facing over the past two years. At the same time, the country's overall saving rate has been high at about 20% of GDP in 2024, which has been reflected in current account surpluses.
The proposal for amendments to the debt brake suggests the following:
- A multi-year infrastructure spending program of a total €500 billion (over 11% of GDP) would be excluded from the debt brake, which limits central government borrowing to 0.35% of GDP.
- Borrowing limits for defense spending would practically not exist.
- German regional states would be allowed an annual net borrowing of 0.35% of GDP. Currently, they are prevented from borrowing on a net basis.
Why It Matters
The proposed changes represent a significant deviation from the stringent fiscal rules Germany has adhered to since 2009. The 'AAA' rating on Germany benefits not only from the country's high fiscal flexibility but also other strong fundamentals. Germany's fiscal space is sizable: General government deficits are relatively narrow, the debt stock is moderate, and financing costs are low in global comparison. Additionally, the rating on Germany reflects a wealthy and diversified economy, predictable and mature political institutions, and the strongest external balance sheet of any major economy globally. Therefore, likely weaker fiscal metrics and the potential effects from the proposed change in the fiscal strategy would not necessarily be negative for the sovereign rating.
The rating impact will particularly depend on:
- The positive effect from additional fiscal spending on Germany's economic growth. Germany's economy has hardly expanded over the past five years, with real GDP levels marginally exceeding 2019 levels--compared with 12% in the U.S. and 25% in China. In our view, the country's economy has fallen behind that of other G7 states. This is partly due to several structural factors that will hamper Germany's economy over the medium term. These factors include challenging near-term demographics, underinvestment, and trade challenges due to heightened geopolitical volatility and increasing protectionism from key trading partners that could impair Germany's export-oriented economy. The extent to which additional public investment, including in infrastructure, could offset these challenges remains uncertain.
- The extent of budget deficits. We estimate that the effect of budget deficits on Germany's net debt stock could range between an additional 5% of GDP to almost 30% of GDP over the next seven years, compared with our current base-case scenario. The speed and effectiveness of additional infrastructure financing and additional defense expenditure will determine public finances over the next few years.
Related Research
- Germany 'AAA/A-1+' Ratings Affirmed; Outlook Stable, Jan. 31, 2025
| Primary Credit Analyst: | Niklas Steinert, Frankfurt + 49 693 399 9248; niklas.steinert@spglobal.com |
| Secondary Contacts: | Christian Esters, CFA, Frankfurt + 49 693 399 9262; christian.esters@spglobal.com |
| Karen Vartapetov, PhD, Frankfurt + 49 693 399 9225; karen.vartapetov@spglobal.com |
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