This report does not constitute a rating action.
FRANKFURT (S&P Global Ratings) March 6, 2025--S&P Global Ratings today said that the budgetary impact of the proposed easing of Germany's strict debt brake rules on the regional state budgets will depend on states’ willingness to make use of the increased leeway.
What happened?
On March 4, less than two weeks since the general election and before the new parliament has assembled, the leaders of Germany's likely coalition parties--including prospective chancellor Friedrich Merz--proposed substantial amendments to the country's stringent debt brake rules. Under these plans, Germany's federal states and municipalities could spend up to €100 billion in total in additional funds on infrastructure, spread over 10 years. The proposal would also grant the German states an annual structural net borrowing of up to 0.35% of GDP, rather than requiring them to fully balance their budgets as is the case now. However, it remains uncertain whether the plan will secure the necessary two-thirds majority approval in both chambers of parliament.
What does the plan mean for the key rating factors for German states?
We understand that the central government would provide a €100 billion infrastructure spending envelope to German states in the form of capital transfers. In this case, the additional capital spending would likely be neutral or even positive to German states' finances. There is a possibility that, to a limited extent, individual states could replace self-funded investments with contributions from the transfers. Furthermore, there could be positive effects from a general economic stimulus on states' revenues. If the total of €100 billion is spent in equal parts over 10 years–i.e., €10 billion annually--that would be equivalent to 17% of current annual capital expenditure for all German states.
However, if--contrary to our current understanding--German states had to finance or co-finance the infrastructure spending envelope by issuing additional debt themselves, instead of receiving it from the federal government, then some of the states’ rating factors could come under pressure. For instance, an additional debt-funded deficit of €10 billion annually would dent states' fiscal balances (after capital spending) by about 2% of their total revenue each year.
If states use the possibility of running an annual structural deficit of up to 0.35% of GDP, this could affect fiscal performance and, over time, lead to an accumulation of higher debt burdens. However, each state would still be able to decide if it wanted to use the new flexibility and relax its own fiscal rules and policy. Each state would still have autonomy to determine whether to ease its fiscal regulations, provided they remain at least as stringent as the requirements set by the federal constitution. (For more details, see "Implications Of The Debt Brake And Its Potential Loosening For Our Ratings On German States," published Feb. 17, 2025, on RatingsDirect).
Assuming states make full use of the increased leeway, the implied additional expenditure of 2.5%-3.5% of operating revenue will lead to larger deficits for some states. However, we think it would take most states considerable time for deficits of that scale to significantly increase debt burdens.
We will assess the overall credit impact of the rule changes for German states once there are more details on the proposal’s effective implementation. The ultimate rating impact will depend on the degree to which each state decides to use the looser deficit rules, the headroom they have for increased deficits at their current rating levels, and the positive economic growth effect.
Related Research
- Sovereign Brief: What The End Of The Debt Brake Means For Germany's 'AAA' Rating, March 6, 2025
- German State of Bavaria 'AAA/A-1+' Ratings Affirmed; Outlook Stable, Feb. 28, 2025
- Implications Of The Debt Brake And Its Potential Loosening For Our Ratings On German States, Feb. 17, 2025
- Germany 'AAA/A-1+' Ratings Affirmed; Outlook Stable, Jan. 31, 2025
- Local And Regional Government Outlook 2025: Weak German Growth Will Require New Borrowing, Jan. 16, 2025
- State of Hesse, Oct. 14, 2024
- State of North Rhine-Westphalia Outlook Revised To Negative On Performance Recovery Risks, 'AA/A-1+' Ratings Affirmed, Oct. 25, 2024
- State of Baden-Wuerttemberg 'AA+/A-1+' Ratings Affirmed; Outlook Remains Positive, Sept. 27, 2024
- German State of Saxony 'AAA/A-1+' Ratings Affirmed; Outlook Negative, Aug. 30, 2024
| Primary Contact: | Stefan Keitel, Frankfurt 49-693-399-9254; stefan.keitel@spglobal.com |
| Secondary Contact: | Michael Stroschein, Frankfurt 49-693-399-9251; michael.stroschein@spglobal.com |
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