Germany’s constitutional court ruled on Wednesday that the government’s re-allocation of 60 billion euros ($65 billion) of unused debt from the pandemic era to a climate fund was illegal, dealing a blow to Chancellor Olaf Scholz‘s coalition.
This is a key decision as it could cause tensions in the coalition in a key week of budget negotiations and also sets a precedent for budgetary measures in the event of future crises in Europe’s largest economy.
The budget manoeuvre agreed in December 2021 by the centre-left Social Democrats (SPD), the prudent Greens and the cautious Free Democrats (FDP) as part of their coalition agreement allowed the parties to make the most of the temporary, pandemic-related suspension of the constitutional borrowing limits.
This was done through the Second Supplementary Budget Act 2021, which retroactively amended the 2021 Budget Act. The Constitutional Court found this law to be inconsistent with the German Basic Law and therefore invalid.
Moreover, the government changed the accounting principle according to which borrowing is recognised in the budget deficit in the year in which it is actually incurred. Thus, the €60bn transfer was only counted as a deficit in 2021, but not in 2023 and 2024, when the bulk of the spending was due.
This allowed German Finance Minister Christian Lindner to revert to the “debt brake” rule this year. This rule caps Germany’s government budget deficit at 0.35 per cent of GDP, but it was suspended for 2020 to 2022 due to the pandemic. Clemens Fuest, President of the Ifo economic institute, said:
The court ruling has far-reaching consequences for fiscal policy in Germany. There are significant constraints for federal budgets in coming years in terms of spending on government support for decarbonization.
The federal court based its decision on three points.
First, the debt ceiling can only be exceeded in case of extraordinary circumstances, which is what happened in the case of the coronavirus crisis, but the transfer of funds to the climate fund does not fulfil these conditions. The court said:
The legislator failed to sufficiently demonstrate the necessary factual connection between the emergency and the crisis management measures taken in response.
Second, it is unconstitutional that the authorisation for the loan was dated 2021 fiscal year, while the activities for which the funds were needed were planned for subsequent fiscal years.
Third, passing the law after the end of fiscal year 2021 violates the principle enshrined in the Basic Law that the budget must be determined in advance. This decision increases the pressure on the budget debate process.
Germany’s 2024 budget and financial plans until 2027 are due for final approval on Friday, as Europe’s largest economic power is cutting spending that has risen sharply in response to COVID-19 and the war in Ukraine.
The judgement against the government means it will have to seek funding for the climate fund elsewhere, a difficult task in the current tight budget environment and amid divisions in the coalition.
