Bundesbank Advocates for Enhanced Flexibility in Debt Brake Regulation

The Bundesbank has proposed a reform of Germany's debt brake, aiming to provide the federal government with greater financial flexibility for essential investments in infrastructure and defense. This proposal comes at a time when the country is facing significant challenges, including the need for infrastructure repairs, climate protection initiatives, and increased military funding.

According to a document reviewed by the German Press Agency, the central bank suggests higher borrowing limits that would primarily be allocated for tangible investments. The proposal indicates that the new borrowing rules should be contingent on the national debt level being either above or below 60% of the country's economic output, a threshold established by the EU's Maastricht Treaty.

Since its introduction in 2009, the debt brake, enshrined in Germany's constitution, has limited new federal borrowing to a maximum of 0.35% of the Gross Domestic Product (GDP) per year. However, the Bundesbank believes it is politically feasible to raise the cap for structural net borrowing to as much as 1.4% of GDP for debt levels below the 60% threshold. For debt exceeding this limit, a cap of 0.9% of GDP is proposed.

Should this reform be enacted, the Bundesbank estimates that the state's borrowing capacity could increase by approximately EUR220 billion by 2030 compared to current levels. Even if debt surpasses the 60% mark, the additional borrowing potential could still amount to around EUR100 billion.

The Bundesbank emphasizes that the EU's debt rules are not under question and that the 60% threshold remains a critical reference point in their proposals. They assert that any adjustments to borrowing limits should be designed to ensure a return to under the 60% debt ratio.

This latest proposal builds on prior recommendations made by the Bundesbank in 2022, wherein they suggested raising the borrowing limit for structural net borrowing under 60% debt to 1.0% of GDP, with a proposed cap of 0.5% for debt levels beyond this threshold.

The debt brake was implemented to prevent the accumulation of excessive national debt that would necessitate continual borrowing to manage existing liabilities. However, the cyclical nature of the debt brake allows for additional borrowing during economic downturns, provided that these debts are repaid during periods of economic recovery.

Additionally, the debt brake can be suspended during natural disasters or extraordinary circumstances beyond state control, a measure employed between 2020 and 2022 in response to the COVID-19 pandemic and the economic ramifications of the war in Ukraine.

While a simple majority in the Bundestag is sufficient to declare a state of emergency, amending the constitutional provisions related to the debt brake requires a two-thirds majority. This presents challenges, as the potential governing partners, the SPD and Union, would need support from the Greens, and possibly from the AfD and Left party, to secure the necessary votes.

Critics argue that the debt brake hinders vital investments needed for climate protection and infrastructure development. The ongoing discourse surrounding the necessity for reform has intensified in the aftermath of the recent federal elections, with questions remaining about how Germany will finance increased defense spending.

Bundesbank President Joachim Nagel recently underscored the importance of maintaining the debt brake as a stability instrument while acknowledging that the current economic environment differs significantly from that of 15 years ago when the regulation was first established. He suggested that a specialized fund for military financing could be integrated into a reformed debt brake.

However, the Bundesbank has also cautioned that greater flexibility in the debt brake is not a cure-all. It remains crucial to reassess priorities and deploy financial resources more effectively. Moreover, enhancing administrative efficiency to facilitate swift decision-making and leverage digital opportunities is essential.