With Germany heading to the polls on February 23, all German parties are making lofty promises, including tax cuts, increased public investment, and pension hikes to stimulate growth, but these come with substantial financial burdens.
- The Necessary Financial Gap: This gap could be filled by debt-financed funds or increased tax revenues, but relying solely on growth is inadequate.
- Tax Savings Proposals and Spending Planning: To meet the financial needs associated with their proposals, the German economy would require additional growth of €388-616 billion annually, a challenging task considering the projected stagnation in 2025 (+0.23% potential growth over the next decade).
- No Convincing Budget Frameworks Presented: Currently, none of the parties have proposed convincing budgetary frameworks for Germany. Aside from fiscal issues, the risk of future coalitions maintaining the status quo is high, while the German economy needs bold, visionary reforms and strong agreements between parties to stimulate and ensure growth.
- The Likely Compromise: Although some promising ideas are emerging, any future government coalition will likely need to reach compromises that lead to more cautious status quo solutions rather than bold, visionary reforms. Future growth in the German economy will require daring steps and a decisive consensus between parties.
The German economy is in poor shape, facing a second consecutive year of recession and stagnation in 2025. Immigration control and revitalizing the struggling economy have been the main topics in the election campaign so far. According to Allianz Trade, the next federal government will inherit a series of unresolved issues from the collapsed “traffic light coalition” (Social Democrats, Greens, and Liberals). Given the current political uncertainty negatively impacting Germany’s GDP by -0.3 percentage points (see Chart 1), its removal should favor more positive growth later this year.
Grand Promises by All Parties, But Do Politics and Growth Align?
All proposals come at a high cost. Based solely on tax reforms, investment initiatives, pension reforms, and citizen incomes, the CDU program could cost €230 billion in the upcoming legislative term, the Greens €227 billion, and the SPD plan €205 billion. Given the strained federal budget, funding these initiatives seems to be a challenge. However, focusing only on immediate costs does not cover the whole picture. According to Allianz Trade, every euro spent can contribute to economic growth and further investments, which will translate to higher tax revenues in the medium term.
CDU/CSU and FDP propose flattening income tax brackets and eliminating the solidarity surcharge, while raising the top-income tax threshold to €80,000 to reduce tax burdens. Conversely, the SPD aims to benefit 95% of taxpayers through a reform that would increase taxes on the wealthiest 1%. The Greens prioritize raising the basic tax-free allowance to ease the tax burden on lower-income individuals. Each of these proposals would result in significant declines in tax revenues (see Chart 2). However, tax relief could stimulate economic growth by encouraging work, potentially increasing employment or driving higher consumption and investments. Depending on the proposal, GDP growth rates may increase from 0.2 to 1.6 percentage points annually (see Chart 3). The additional tax revenues generated could significantly reduce funding gaps, for example, by €62 billion for CDU/CSU and €20 billion for SPD, potentially making some necessary reforms feasible.
Source: Institut für Wirtschaft, Dezernat für Zukunft, Allianz Research. Notes: Calculations based on party election programs and Clemens et al. (2024) multiplier. The bottom of the axis is trimmed for tax costs from AfD and FDP.
To encourage private investments, CDU/CSU and FDP propose lowering the corporate tax rate from 29.9% to 25%. Meanwhile, the SPD and the Greens advocate for a 10% investment bonus. While corporate tax cuts provide substantial relief and enhance corporate profits, no clear evidence suggests they will directly increase investments. According to Allianz Trade, the investment bonus offers more targeted incentives and could have a more focused impact. The investment bonus could generate up to €28 billion in additional tax revenues in the next legislative term. In comparison, gradually lowering corporate taxes during the same period could result in an annual GDP increase of 0.06 percentage points and accumulated additional tax revenues of €3 billion. Another benefit of reducing corporate tax rates could be a 1 percentage point increase in non-financial business margins, raising them to 39.4% of gross value added. Currently, the margins of German non-financial companies are at the lowest level since the pandemic and over 2 percentage points below the long-term average, highlighting the potential additional impact of such a cut.
All centrist parties propose significantly increasing public investment. The SPD and the Greens specifically plan to boost investments in areas such as electrical infrastructure, networks, housing construction, and childcare centers through the “Deutschlandfond.” With annual investments of €25 billion, this German fund could increase economic growth by at least 0.8 percentage points per year and generate €55 billion in additional tax revenues from 2025 to 2029. Many of these public investments are expected to enhance long-term growth potential, indicating that such an investment push could become self-financing over time. However, beyond the requirement of a two-thirds majority vote, creating such a fund is unlikely to be completed before the end of 2025, and without public-private partnerships, the estimated €600 billion needed over the next decade for public infrastructure alone remains beyond budgetary capabilities.
According to Allianz Trade, another key aim is to address the labor shortage, particularly by encouraging older workers to remain in the workforce. CDU/CSU propose a tax exemption of €2,000 per month, while the SPD and Greens plan to cover pension and unemployment insurance contributions for working retirees. The Liberals support a more flexible retirement age. It is expected that the demographic burden ratio in Germany will increase from 34% to 51% by 2050, while the working-age population will shrink from 52 million to 43 million. The potential for activating workers aged 55 to 70 is estimated at 1.36 million full-time jobs. Financial incentives are crucial, as 33% of working retirees cite them as a key factor. These proposals could stimulate economic growth by 0.06 to 0.2 percentage points annually and generate between €2 to €10 billion in additional tax revenues, despite possible losses due to higher tax relief.
Additionally, there is widespread agreement that social benefit recipients should be encouraged to engage more actively in the labor market. CDU and FDP focus on reforming pension and unemployment contribution rates, reducing benefits, and introducing stricter penalties. The Greens also propose adjusting contribution rates on earnings, while the SPD has yet to present specific reforms. Lowering social contribution rates—allowing recipients to retain a larger share of income—would create stronger incentives to work. In the long term, this could translate into a budget increase of €1 billion due to higher tax revenues and reduced transfer payments.
Source: Party programs, Allianz Research.
Today’s Costs, Tomorrow’s Tax Revenues – Such a Plan Is Insufficient
Reform proposals in Germany aim to introduce structural changes and stimulate economic growth. Although there is potential for higher tax revenues, growth alone will not cover expenses. On average, every euro spent may generate 0.8% more economic growth and 0.2% additional investments. However, considering Germany’s multi-faceted challenges, any future coalition government will likely need to prioritize both growth initiatives and budget balancing simultaneously. Furthermore, options for countering funding shortages (e.g., VAT or lump-sum taxes) will likely be necessary. Nevertheless, relying solely on growth is unrealistic. Without any further actions, the CDU/CSU program would need to increase GDP by €616 billion or an additional +2.9 percentage points annually, a daunting task given the projected stagnation in the country for 2025 and a potential growth rate of only +0.23% over the next decade. Calculations regarding the SPD and Greens programs reveal similarly unrealistic growth targets. For the SPD, this translates to an economic boost of €388 billion or an additional +1.8 percentage points of growth annually. However, if a debt-financed fund is taken into account, this impact would effectively be nullified. The Greens would require GDP growth of €440 billion or an additional +2 percentage points of annual growth, which would decrease to +0.2 percentage points with the “Deutschlandfond.” Despite a commitment to the debt brake, CDU leader Friedrich Merz has indicated an openness to reform it under certain conditions, particularly regarding investments. Such a change could bring CDU/CSU closer to the SPD and Greens, who support modifying the debt brake to finance investment expenditures. So far, none of the parties have presented a convincing vision for the future of the German economic model after the next legislative term.
Source: https://ceo.com.pl/wybory-w-niemczech-wielkie-obietnice-wielkie-koszty-czy-gospodarka-to-udzwignie-27834
