Germany and Europe face the same challenges to overturn the fiscal status quo

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It’s not quite white smoke yet. But the written conclusions of the preliminary coalition talks between the German Social Democrats, Liberals and Greens make it almost certain that the three will soon form a “traffic light coalition”. This makes the reading of the document compulsory for those who want to understand how the end of the domination of Angela Merkel and her CDU party at home will affect the European economy.

On the surface, it is easy for a European observer to be disappointed. A commitment to work “within the framework of the constitutional debt brake” resembles a reluctance to remove the straitjacket that Germany has imposed on itself on spending. Over the past 20 years, German restraint has produced destabilizing capital exports, delayed Europe’s recovery after 2009, and led to underinvestment in the country and unprofitable investment abroad.

This apparent continuity finds an echo in the approach to European policy. The report adopts the position of SPD leader Olaf Scholz “if it ain’t broke, don’t fix it” on EU fiscal rules. It is a terribly narrow-minded signal to send as Brussels reopens the debate on tax reform.

Other important areas for the European economy are totally neglected. Neither the EU Banking Union (to encourage cross-border banking) nor the Capital Markets Union (to get companies to resort to bond and equity financing) receive any mention. Progress on both projects has largely stalled for lack of a political agreement from the EU.

Such a paralysis is bad for Europe, but also for Germany. At national and European levels, the status quo presents obstacles to the grand ambitions on which the putative coalition has agreed. Their document states: “We want to make the 2020s a decade of investments for the future. We are therefore aiming for a policy that significantly increases private and public investment. This is the right goal, especially since the investment boom is aimed at the decarbonization and digitization that are sorely lacking.

But the success of investing in a greener, more digital Germany will depend on whether other EU countries feel able to do the same. One, not to mention both, structural revolutions are much more difficult to achieve for any economy deeply integrated with the others if they don’t move in the same direction at a similar speed.

The Banking Union and the Capital Markets Union are key to improving the quality of private capital investment across Europe, the need for which has rarely been greater. For a new German government to ignore this would be a missed opportunity amounting to self-harm.

Above all, the coalition’s ambitions will require tax governance that is more favorable to investment in the country and in the EU. The partners are not promising big tax hikes. Given Germany’s “debt brake” constraint on borrowing, it is not clear how they will “significantly” finance larger public investment, or incentives for private investment – for which their document contains many excellent ideas. The promise of freeing up funds by cutting “redundant” and “bad climate” subsidies and spending is unconvincing, given the gap between recent investment rates and what is needed. The wish to reduce planning bureaucracy is welcome, but it would be naive to think that it relieves the need for additional funds.

The dilemma – how to mobilize ambitious investments under rules that discourage them – is the same at national level and in the EU. If the new government does not want to be blocked from the start, it should seek similar solutions on both levels. Maintaining the debt brake means finding ingenuous ways to finance investment outside the main public balance sheet, through specially designed institutions. It could also imply a reinterpretation of its technical machinery: it can be argued forcefully that current methods adopt an overly austere view of Germany’s production capacity.

If the new government, and the Liberals in particular, cannot accept such moves as being “within” the brake, their government will never succeed. But if they can, they should be able to use the same imagination for EU rules. After all, Scholz’s point of view seems perfectly compatible with a reinterpretation of these in a much more investment-friendly way, as Brussels may still choose to do.

It is too early to despair that a change in Berlin means little change in Brussels. It will surely help the union of banking and capital markets to have a German chancellor who has worked on both as finance minister. This will pave the way for a reinterpretation of EU fiscal rules if a German government has already done the same at home. But for that to happen, all coalition partners must seize their opportunity to support drastic improvements in EU economic policy, to the benefit of Germany.

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