In Scope’s webinar on Tuesday 26 February on the post-election challenges facing Germany – the recording is available here – the rating agency’s sovereign and public sector team explained why raising Germany’s competitiveness to improve growth and create more fiscal space is among the items at the top of incoming chancellor Friedrich Merz’s economic to-do list.

Germany (AAA/Stable) has some fiscal space, allowing for higher government spending to address structural weaknesses and raise public investment, which remains low compared to other developed economies. Still, while Germany’s debt-to-GDP of around 60% is low compared with other large European sovereigns, it is relatively high compared with other AAA-rated sovereigns. Additional debt-financed public spending will therefore have to focus on raising economic growth and should be accompanied by policy reforms to support private investment.

Download the presentation slide-deck.

Priorities include addressing high energy prices, reducing bureaucracy, labour-market reforms to raise participation rates, immigration controls that do not compromise Germany’s attractiveness for skilled migrants, and reforming tax rules to encourage business investment, Scope said.

Increasing defence budget, more flexible debt brake on new government’s agenda

At the same time, the new government faces significant geopolitical challenges amid rising trade tensions with the United States, with the need for significantly higher defence expenditure as Germany and the rest of Europe will have to play a stronger role in deterring Russian aggression with less US support than in the past.

Germany’s government also faces substantial budgetary constraints due to the so-called debt brake. Some spending reallocation is possible within the current fiscal rules embedded in Germany’s constitution, but it is unlikely to be sufficient to fund the much-needed reforms.

Yet altering the debt brake in the next parliament will require the coalition government to secure the support of other parties to reach the necessary two-thirds majority. This would have to include either the far-left (Die Linke) or far-right (Alternative für Deutschland) parties who have expressed reluctance. Using the current, outgoing parliament, to approve special funds and/or reform the debt brake is an option, but with a tight deadline as the newly elected parliament first convenes on 25 March.

Related research:

Germany’s election: reform momentum strengthens even if debt-brake reform remains challenging 24 Feb 2025

Higher defence spending to weaken EU credit profiles, even if fiscal rules eased 21 Feb 2025

EU sovereigns face multiple risks to credit outlook from shifts in US policy 17 Feb 2025