Germany’s leader vows to fix a spending crisis that’s worsening gloom in the struggling economy

German Chancellor Olaf Scholz has pledged swift action to address a budget crisis that has cast a shadow over the struggling economy. This crisis emerged following a court decision that significantly disrupted the nearly completed plan for the next year’s budget, jeopardizing funding for initiatives aimed at combating climate change and mitigating the impact of surging energy prices caused by Russia’s incursion into Ukraine.

Scholz, in a video posted on X (formerly known as Twitter), acknowledged the concerns surrounding the continued financial support from the federal government, especially in capping high energy prices. He referred to these concerns as “justifiable questions.” However, he emphasized the government’s unwavering commitment to modernizing the country to ensure a robust industry, quality employment opportunities, and competitive wages, all within the framework of a climate-neutral economy.

These assurances from Scholz come at a critical juncture when the budget crisis threatens to exacerbate the challenges faced by Germany, currently the worst-performing major developed economy in the world. Recent figures reveal that the economy contracted by 0.1% in the July-to-September quarter due to inflation eroding consumer spending. This contraction stands in stark contrast to the International Monetary Fund’s projection, which anticipates a 0.5% decline in Germany’s GDP, making it the sole major economy expected to shrink this year.

Moreover, the Ifo institute’s business optimism survey, a closely watched indicator, showed a marginal improvement from 86.9 in October to 87.3 in November. However, this figure remains significantly below its level in July, reflecting persistently low business confidence.

The looming budget crisis raises the specter of potential spending cuts in the coming year, a move that economists warn could further compound the challenges confronting the stagnating German economy. These challenges include a shortage of skilled labor and the loss of affordable natural gas supplies from Russia in the wake of the Ukraine conflict.

The recent court ruling, which deemed previous spending as violating constitutional deficit limits, has forced Scholz’s government to delay the final vote on next year’s budget and search for solutions to bridge a 60 billion euro ($65 billion) budget gap spanning this year and the next. The ruling specifically prohibited reallocating unused funds designated for COVID-19 relief toward climate change projects and energy cost relief for consumers and businesses. It cited constitutional rules that limit new borrowing to 0.35% of annual economic output, with exceptions permitted in cases of emergencies not caused by the government itself, such as the pandemic.

This legal decision has entangled Scholz’s coalition government, comprised of three parties, in a complex dilemma as they seek compliance, leading to uncertainties about which government programs may face reductions. Despite these challenges, Scholz underscored that the ruling affirmed the possibility of exceptions to the debt rules in emergency situations and affirmed the government’s commitment to transitioning away from fossil fuels and shielding consumers from rising energy prices.

Analysts estimate that around 15 billion euros have already been expended from this year’s budget, including relief for utility bills. Finance Minister Christian Lindner has proposed invoking an emergency clause again this year to align spending with the regulations. However, the larger issue looms in the form of the 35 billion to 40 billion euros that the government can no longer borrow and allocate for the next year. This could potentially lead to cuts in the climate and transformation fund, impacting initiatives aimed at reducing fossil fuel emissions, promoting energy efficiency in buildings, subsidizing renewable electricity, electric vehicles, and railway infrastructure, as well as advancing emissions-free hydrogen as an energy source. The fund also supports energy-intensive companies grappling with elevated energy prices and contributes to the development of computer chip production.

As Carsten Brzeski, the chief eurozone economist at ING bank, points out, there are no strong growth drivers on the horizon. The marginal uptick in the Ifo survey is seen as more of a stabilization than a substantial rebound. Consequently, the outlook suggests the continuation of stagnation and a shallow recession, with the risk of 2024 becoming another year marked by economic recession remaining a concern.

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More about German budget crisis

• German Chancellor Olaf Scholz
• Germany’s Economic Challenges
• Ifo Institute Business Optimism Survey
• Constitutional Court Ruling
• Impact of Budget Crisis