This report does not constitute a rating action.
Key Takeaways
- Depending on policy responses, German states and municipalities could receive lower capital transfers as a result of the federal constitutional court's recent decision to cancel a €60 billion borrowing authorization for the federal government's Climate and Transformation Fund (KTF).
- In our view, the direct budgetary effect is manageable because it should fall clearly short of 10% of states' annual capital expenditures.
- Indirect effects could, however, be much more significant as the court's decision raises doubts about the availability of funding for private sector flagship transformation projects. It also calls into question the legal permissibility of various off-budget spending envelopes that several German states have set up to finance expenditures outside the restrictions imposed by the country's debt brake.
- The constitutional court's decision has put the discussion on a reform, or even abolishment, of the current deficit limits and on how to finance the green transformation forcefully back on Germany's political agenda.
On Nov. 15, 2023, Germany's constitutional court ruled against the repurposing of €60 billion of unused pandemic-related borrowing authorizations for the KTF, a multi-year, off-budget green transition spending program. The court ruled that the repurposing was at odds with Germany's debt brake and cancelled the borrowing authorization. This does not only impair the country's federal administration (see "Germany’s Medium-Term Growth Could Suffer From Top Court’s Decision," Nov. 27, 2023) but could also have repercussions for regional and local government budgets. However, such effects will be predominantly indirect, depend on the governments' policy responses, and are difficult to quantify at this stage. The federal government plans to spend €212 billion over 2024-2027 under the KTF. The constitutional court ruling means that almost 30% of projects under the KTF lack funding now.
If KTF spending is reduced, capital transfers from the fund to German state and municipal budgets could decrease, but we anticipate the direct budgetary effect will be limited. We estimate that only about €6 billion of almost €36 billion of budgeted KTF spending for 2023 have been allocated to project types where we believe that funds could either end up or pass through a state or municipal budget. This amount--equivalent to about 10% of German states' or 12% of municipalities' capital spending in 2023--is, however, shared between sub-national public budgets and private sector recipients, which dilutes direct relevance for local and regional budgets further. We note the federal government's plans to boost total KTF spending to €58 billion in 2024. However, even if capital transfers to state and municipal budgets increased proportionately, the resulting amounts would remain small in comparison with overall public sector capital expenditure budgets.
The financial effect of lower KTF payments on states' and municipalities' fiscal performance indicators depends on policy reactions. Lower KTF payments could, initially, even have a positive financial effect if authorities cancel projects and thereby reduce co-financing needs from their own budgets. A negative fiscal effect could result from states or municipalities using their own resources to fully replace missing KTF transfers. We expect a combination of both options if material losses of KTF transfers need to be addressed.
Lower KTF contributions to private sector investments could have an indirect effect on sub-sovereign public budgets that could be more material in the medium term than a decrease in intra-government transfers. If KTF payments to the private sector reduced, output, employment, and future regional tax revenue growth could suffer. Some private sector investment projects that are expected to be co-financed by the KTF include:
- Intel's semiconductor production facility in Magdeburg (Saxony-Anhalt) that will reportedly lead to the creation of 10,000 direct and indirect jobs. A significant part of the €10 billion of government subsidies for the project was expected to come from the KTF;
- Decarbonization projects for various steel mills in Bremen, Brandenburg, Hamburg, North Rhine-Westphalia, and Saarland;
- Northvolt's battery factory in Heide (Schleswig-Holstein); and
- Taiwan Semiconductor Manufacturing's plant in Dresden (Saxony).
In any case, we understand that politicians at national and local levels are adamant on holding on to all projects, even though federal financing is currently uncertain.
Indirect legal implications of the constitutional court's decision for several German states' similarly structured off-budget spending envelopes are uncertain but could be material. We understand that COVID-19-related off-budget spending programs, which were employed by almost all 16 federal states, are closed now, although some debt-financed multi-year spending authorizations remain outstanding. For example, these can still be found in Saxony-Anhalt, Lower Saxony, and Mecklenburg Western-Pomerania. Yet, several federal states also maintain off-budget spending envelopes that reference the energy crisis, climate transition, or the implications of the Russia-Ukraine war (see table 1). For the associated sizeable borrowing authorizations, they claim an exemption from the debt brake's zero limit on net new borrowing. Following the federal constitutional court's decision on the KTF, the permissibility of these structures could incur heightened judicial scrutiny. This could cast doubt on material parts of the states' capital expenditure programs. We understand that, in principle, a shorter duration, lower borrowing volumes relative to states' budgets, and a narrower definition of the purpose of those spending programs should decrease the risk of cancellation after a judicial review.
Table 1
| State-level special spending envelopes with borrowing authorizations outside the debt brake limit | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| State | Legal purpose | Borrowing authorization (bil. €) | Borrowing authorization in percent of 2022 state capital expenditure (%) | Notes | ||||||
| Berlin | Climate protection, reduce dependence on fossil fuels. | 5.0 | 144 | Bill still under parliamentary debate, law not yet implemented/ratified. Evaluation planned for end- 2026, with the possibility of an increase by €5 billion. | ||||||
| Brandenburg | Mitigate hardship imposed by the Russia-Ukraine war. | 2.0 | 113 | Legally not an off-budget special purpose vehicle. The parliament authorized the on-budget borrowing outside the debt brake because it declared a “budgetary emergency.” | ||||||
| Bremen | Respond to climate and energy crisis, and implications from the Russia-Ukraine war. | 2.7 | 293 | Planned spending of funds over 2023-2027. | ||||||
| North Rhine-Westphalia | Respond to implications from the Russia-Ukraine war. | 5.0 | 40 | Use of funds limited to 2023. | ||||||
| Saarland | Finance capital expenditure for innovation, infrastructure, and economic transformation. | 3.0 | 96 | Commitments can be made until 2032. | ||||||
| Schleswig-Holstein | Provision for financial challenges related to the Russia-Ukraine war. | 1.4 | 101 | Legally not an off-budget special purpose vehicle. The parliament authorized the on-budget borrowing outside the debt brake because it declared a “budgetary emergency.” State government plans to unwind and reestablish an adjusted structure after the constitutional court ruling. | ||||||
| Thuringia | Handle consequences of the COVID-19 pandemic and the energy crisis. | 1.1 | 68 | Purpose extended in 2022 to also cover the energy crisis in the same year. Only residual amounts outstanding and useable until 2025. Draft state budget for 2024 proposes dissolving special purpose envelope and reintegrating remaining about €200 million into the core budget. | ||||||
| Source: S&P Global Ratings. | ||||||||||
We think the constitutional court's decision has reinvigorated the political debate on Germany's debt brake, which bans budget deficits under normal circumstances, and on the financing of infrastructure in all 16 federal states. While the debt brake has not been seriously challenged over the past few years, individual politicians from all parties now call for a reform or even an abolishment of the rule, following the constitutional court's KTF decision. This would require a two-thirds majority in both chambers of the federal parliament and, where necessary, the state assemblies. Our assessment of the institutional framework under which German state governments operate, views the existing balanced budget requirement as a helpful tool to enforce fiscal discipline, at least under normal circumstances. Yet, we also acknowledge that the debt brake could indeed hamper public investments and, consequently, economic growth prospects over the medium term.
If attempts to find alternative arrangements to authorize the required debt funding for KTF projects remain unsuccessful, policymakers might have to consider raising taxes or cutting other expenditures. We think the latter could have a generally dampening effect on the whole spectrum of operating and capital transfers to states and municipalities far beyond the direct impact of the KTF ruling.
Related Research:
- Germany's Medium-Term Growth Could Suffer From Top Court's Decision, Nov. 27, 2023
- Germany, Sept. 25, 2023
- Institutional Framework Assessment: New Challenges Could Test German States' Commitment To Balanced Budget Rules, May 25, 2023
| Primary Credit Analyst: | Michael Stroschein, Frankfurt + 49 693 399 9251; michael.stroschein@spglobal.com |
| Secondary Contact: | Sabine Daehn, Frankfurt + 49 693 399 9106; sabine.daehn@spglobal.com |
| Research Support: | Raphael Robiatti, Frankfurt; raphael.robiatti@spglobal.com |
| Additional Contact: | Sovereign and IPF EMEA; SOVIPF@spglobal.com |
No content (including ratings, credit-related analyses and data, valuations, model, software, or other application or output therefrom) or any part thereof (Content) may be modified, reverse engineered, reproduced, or distributed in any form by any means, or stored in a database or retrieval system, without the prior written permission of Standard & Poor’s Financial Services LLC or its affiliates (collectively, S&P). The Content shall not be used for any unlawful or unauthorized purposes. S&P and any third-party providers, as well as their directors, officers, shareholders, employees, or agents (collectively S&P Parties) do not guarantee the accuracy, completeness, timeliness, or availability of the Content. S&P Parties are not responsible for any errors or omissions (negligent or otherwise), regardless of the cause, for the results obtained from the use of the Content, or for the security or maintenance of any data input by the user. The Content is provided on an “as is” basis. S&P PARTIES DISCLAIM ANY AND ALL EXPRESS OR IMPLIED WARRANTIES, INCLUDING, BUT NOT LIMITED TO, ANY WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE OR USE, FREEDOM FROM BUGS, SOFTWARE ERRORS OR DEFECTS, THAT THE CONTENT’S FUNCTIONING WILL BE UNINTERRUPTED, OR THAT THE CONTENT WILL OPERATE WITH ANY SOFTWARE OR HARDWARE CONFIGURATION. In no event shall S&P Parties be liable to any party for any direct, indirect, incidental, exemplary, compensatory, punitive, special or consequential damages, costs, expenses, legal fees, or losses (including, without limitation, lost income or lost profits and opportunity costs or losses caused by negligence) in connection with any use of the Content even if advised of the possibility of such damages.
Credit-related and other analyses, including ratings, and statements in the Content are statements of opinion as of the date they are expressed and not statements of fact. S&P’s opinions, analyses, and rating acknowledgment decisions (described below) are not recommendations to purchase, hold, or sell any securities or to make any investment decisions, and do not address the suitability of any security. S&P assumes no obligation to update the Content following publication in any form or format. The Content should not be relied on and is not a substitute for the skill, judgment, and experience of the user, its management, employees, advisors, and/or clients when making investment and other business decisions. S&P does not act as a fiduciary or an investment advisor except where registered as such. While S&P has obtained information from sources it believes to be reliable, S&P does not perform an audit and undertakes no duty of due diligence or independent verification of any information it receives. Rating-related publications may be published for a variety of reasons that are not necessarily dependent on action by rating committees, including, but not limited to, the publication of a periodic update on a credit rating and related analyses.
To the extent that regulatory authorities allow a rating agency to acknowledge in one jurisdiction a rating issued in another jurisdiction for certain regulatory purposes, S&P reserves the right to assign, withdraw, or suspend such acknowledgement at any time and in its sole discretion. S&P Parties disclaim any duty whatsoever arising out of the assignment, withdrawal, or suspension of an acknowledgment as well as any liability for any damage alleged to have been suffered on account thereof.
S&P keeps certain activities of its business units separate from each other in order to preserve the independence and objectivity of their respective activities. As a result, certain business units of S&P may have information that is not available to other S&P business units. S&P has established policies and procedures to maintain the confidentiality of certain nonpublic information received in connection with each analytical process.
S&P may receive compensation for its ratings and certain analyses, normally from issuers or underwriters of securities or from obligors. S&P reserves the right to disseminate its opinions and analyses. S&P's public ratings and analyses are made available on its Web sites, www.spglobal.com/ratings (free of charge), and www.ratingsdirect.com (subscription), and may be distributed through other means, including via S&P publications and third-party redistributors. Additional information about our ratings fees is available at www.spglobal.com/usratingsfees.