A new government is taking office in Germany next week under CDU leader Friedrich Merz. And astonishingly, its first action – even before it takes office – has been to work with the outgoing Social Democrat government to reform the ‘debt brake’.
As the New York Times notes, this had been enshrined in the Constitution:
“That brake has reduced German debt, but it has also kept the government from investing in roads, software, bridges, tanks and other areas. Lawmakers say that spending is now urgently needed to address declining German competitiveness and shrinking American security guarantees.”
Germany: historical comparison of major fiscal plans, annual outlays as % of GDP
The brake was introduced by Angela Merkel’s first government in 2009. This restricted annual budget deficits to just 0.35% of GDP. As a result, German infrastructure – which used to be the envy of the world – has started to (literally in some cases) fall apart.
Abolishing the ‘brake’ required a 2/3rds majority in the German Parliament. This was achieved by the CDU, Social Democrats and Greens working together:
- €500bn will now be available for infrastructure spend over the next 12 years, including €100bn for climate change measures
- Even more importantly, given Russia’s invasion of Ukraine, all defence spending above 1% of GDP will be exempt from the rule
As analysts TS Lombard have noted in the chart, this is a massive change. In size it:
- Exceeds the transformational post-War Marshall Aid Plan, which was worth 1.3% of GDP
- It is also larger than the 1% of GDP spent on the 1989 Reunification programme after the fall of the Berlin Wall
EUROPE IS ALSO SHAKING OFF STAGNATION
EU Defense Push Could Bolster Europe’s Economy
Estimated effect of increased defense spending on GDP growth in the EU
Germany is Europe’s largest economy. And where it leads, Europe tends to follow.
In recent years, the “engine” driving European unity, the French – German partnership, has effectively been in the garage. But now, it seems to be back on the road.
Earlier this month, as the chart shows, Brussels announced a massive €800bn increase in defence spending.
In the past, this would have been vetoed because it included a major increase in borrowing. But not today.
Instead it was widely welcomed, with the head of the Dutch central bank, Klaas Knot, noting:
“Defense is more important for now than book-keeping.”
Potentially, it could double GDP growth by adding 0.9% – 1.5% to the annual total.
THE UK IS ALSO PLAYING ITS PART
Equally significant is the fact that the UK is also ‘back in the game’ and playing a leading role on the European stage.
Premier Sir Keir Starmer has taken on the UK’s traditional role of acting as an intermediary between continental Europe and the US. He has also restored a leading role for the Commonwealth, by working with Canada and Australia.
Essentially, he has worked with President Macron to create a ‘coalition of the willing‘. This began with political leaders meeting in London.
And it was followed last week by a closed-door meeting of 31 military heads in London including Europeans, Canada, Australia and Turkey.
History shows that moves towards European integration have been turbo-charged by the need to respond to crisis. Or as German philosopher, Friedrich Nietzsche, once noted:
“What doesn’t kill me, makes me stronger”.