Interview with Chris Glück, Managing Director, Forefront Advisers
An alumnus of the College of Europe, Christopher Glück is Managing Director at Forefront Advisers. This Brussels-based political advisory firm specialises in research, reports and analysis on political trends and policy developments in the UK and Europe. We asked for his point of view on the recent ruling by the German Constitutional Court, which prevents the federal government from reallocating €60 billion from Covid recovery to green transition spending. He comments on the decision and its consequences for both Germany and the European Union’s industrial strategy as a whole.
Q1. The recent ruling from the German Constitutional Court in Karlsruhe has taken many international observers by surprise. Can you briefly recall what it says and tell us whether this decision could have taken a different direction?
The ruling really came as a surprise, even to the plaintiffs who expected the court would keep with its tradition of setting out guidelines for the future but mostly avoiding big disruptions. At its heart, the ruling is about how strictly the German government needs to interpret the wording of the constitutional debt brake. In normal times, the debt brake limits the structural deficit to no more than 0.35%. During crisis times, it can be suspended, which is what happened during the pandemic. When the debt brake is suspended, governments can rack up much higher deficits, limited only by what the parliament allows it to do.
What happened was that the parliament provided the Government with very high borrowing authorisations between 2020 and 2022. This allowed for higher spending from the regular budget but also gave the Government the possibility to create funds outside of the regular budget. For this, the Government used an accounting trick: borrowing authorisations for off-budget funds are counted in the year when they are granted, not in the year when the funds are actually borrowed and spent. In this way, the Government could account for off-budget funds in the years when the debt brake was suspended (having very high virtual deficits in those years, much higher than the actual borrowing), but was planning to draw from it in the coming years.
For next year for example, the Government was planning to formally adhere to the deficit limits of the debt brake in the regular budget, while at the same time using about €30 billion from the off-budget funds that would be counted towards the 2022 budget instead of the 2024 budget.
The general expectation was that the court would limit this practice for future occasions when the debt brake might be suspended again. Instead, they ruled that this practice is unconstitutional. For this, they gave three reasons. First, there must be a logical connection between the reason why the debt brake was suspended and the spending purposes of the additional debt. In the current case, the Government transferred debt authorisations for pandemic aid into a climate fund, which the court ruled was insufficiently justified. The second reason is that the money needs to be spent within a reasonable timeframe that is defined ex-ante. The funds cannot be open-ended in the way the Government had set them up. There is a bit of ambiguity in the judgment on whether this means they all need to be spent within the same calendar year in which they are created or whether they can be stretched over multiple years, but in any case, a clear end date would be required, which is not too far away. And finally, the court ruled that unused resources cannot be repurposed after a budget year is closed, which happened in some cases.
As a result, they ruled that the transfer of €60 billion from a pandemic fund into the climate and transition fund was unconstitutional, and those €60 billion could no longer be used.
While the court did not rule on a second fund (the €200 billion economic stabilisation fund), the Government concluded that the same logic would apply here. They had planned to spend about €20 billion from this fund next year but decided to shut down the fund pre-emptively to avoid another court defeat.
Q2. The war in Ukraine and the “Zeitenwende” had somewhat diminished the saliency of differences between the parties within the ruling coalition. This judgment, on the contrary, highlights divisions among the parties, for instance in the field of fiscal policy. Do you think the federal government can recover from this?
The coalition had a simple recipe to bind three very different parties together. The Social Democrats get social spending, the Greens get generous spending on the Green Transition, and the Liberals get to keep their promise of no new taxes and a return to the debt brake apart from the off-budget funds.
There are three relevant off-budget funds worth mentioning. First, the €200 billion economic emergency fund which has now been closed. Second, the €212 billion climate and transition fund. Most of the fund is financed through ETS and carbon tax revenues, but €60 billion from the fund was supposed to be borrowed. Those €60 billion are what the constitutional court objected to. Finally, there is the €100 billion defence fund. As this fund has been anchored in the constitution with a 2/3 majority in the Bundestag, the German parliament, this fund will continue to stand.
This solution did not avoid a lot of infighting in the coalition, but it worked well enough for it to struggle through, keeping everyone sufficiently happy.
Since the ruling, this recipe no longer works. However, none of the three parties have anywhere else to turn and would each take a beating in new elections. Breaking up the Government now would mean that for each of the three parties, the only possible option for government participation after the elections is with the centre-right opposition CDU/CSU. Running a campaign on this ground would be extremely difficult.
At this point, it looks like they might find a solution at least for 2024. The Government already decided to end electricity and gas price subsidies at the end of this year which has brought the fiscal shortfall for next year down to about €20 billion. The three top dogs, Chancellor Scholz, Finance Minister Lindner and Economy Minister Habeck, are now meeting every day and hope to be able to present a solution by next week.
They are, however, still far apart in their positions. Lindner wants the entire €20 billion to be saved by spending cuts. Habeck and Scholz are more open to another suspension of the debt brake, this time related to Ukraine support as an economic emergency.
They also know that projected annual spending volumes from the climate and transition fund are rarely used in full as, typically, spending projects take longer to materialise than originally foreseen. This means they can budget slightly less carefully and push some of the spending into subsequent years.
On the whole, the pressure on the coalition is enormous, and a ‘negotiation accident’ that could end the coalition early cannot be ruled out. At the same time, the pressure for 2024 is still manageable, and it is preferable for the coalition to absorb this pain than to go into early elections.
Q3. The “debt brake” rule on which the Court has based its decision dates back to 2009. Given the succession of crises and new investment challenges the economy faces, do you see any possibility that this fiscal doctrine will be reviewed to give governments more leeway in the future?
The debt brake is very ill-suited for economic crises that last longer than a year or for very large investment programmes. The Green Transition, which will require higher levels of investment over at least a decade, is one example. The additional challenges of providing support to Ukraine and dealing with the fallout of the energy crisis do not make things easier.
The difficulty is that the debt brake is anchored in the constitution. It would need a 2/3 majority in Parliament to change it, which is impossible without the CDU/CSU. Before they lost the elections in 2021, some of the high-profile members of the party under Merkel already started preparing the party base for the need to make changes to the debt brake. Once in opposition, they have, however, reverted back to a principled fiscally conservative position. Over the past two weeks, the cracks are starting to show again. Most of the state premiers from Germany’s 16 states, including those from the CDU, are pushing for a reform of the rules. Even the German industry association is now saying that a reform is absolutely necessary. It will be difficult for the CDU, once in government, to ignore this. It has become quite obvious that whoever will form the next German government will have to tackle this.
Q4. Most of the funds which have been blocked by the ruling were to be spent on projects relating to the energy transition and the creation of strategic industries for the EU market (giga factories for chips, for instance). Do you think that this decision will impact the so-called “European industrial strategy” in the long term?
It is ironic that we spent the better part of 2023 debating whether the EU’s new and much looser state aid rules would lead to Germany unbalancing the single market by flushing every company that is planning to set up production sites in Germany with state aid. It turns out the actual risk is that Germany might not be spending enough. This is also impacting the rest of the EU. On December 15, the European Council was supposed to sign off on an additional €10 billion for the EU budget to help with the Green Transition. This has now been put on ice until there is more clarity on the German budget situation and is unlikely to ever be realised. Ultimately, Germany will maintain relatively high levels of funding, but the current situation is at the minimum delaying the transition.
