The federal budget debt brake since 2011 : the real test is yet to come

Looking back, the debt brake for the German federal government's budget seems a great success story: The targets for net borrowing were met with a wide margin each year, the budget was consolidated extremely fast since 2010 and the debt brake served as a role model for the Fiscal Compact at the European level. However, the appearance is deceptive. The rapid consolidation and the permanent overachievements are mostly due to dynamic employment and income growth as well as low interest rates in the years from 2011 to 2015. Already before the financial crisis, i.e. well before the introduction of the debt brake, the federal government made considerable progress towards a balanced budget. A counterfactual simulation of the IMK shows: Had economic activity evolved as unfavourably as forecast in 2009 and 2010, the debt brake would have called for pro-cyclical expenditure cuts very rapidly, thus further weakening the economy. Government debt in relation to GDP would be 8.5 percentage points higher today and the federal government would have about 41 billion euro less to spend on public investment and services. The real acid test for the debt brake in a less favourable macroeconomic environment is therefore still to come. Policy makers would be well-advised to adapt the debt brake in time, to prevent this fiscal instrument from back-firing in an economic downturn.