‘Zeitenwende’ 2.0: The end of German economic delusions?

Germany has just announced another “Zeitenwende”: a turning point when long-held beliefs are abandoned in favour of new, more promising strategies. That term was what German Chancellor Olaf Scholz used to describe the situation on February 27, 2022, days after Russia’s full-scale invasion of Ukraine, when he promised to mobilise resources to support the Ukrainians and the democratic values for which they were fighting. Yet as important as this announcement was, it was not accompanied by a reset of Germany’s fiscal regime and monetarist orthodoxy.
Hampered by the “debt brake,” a rule restricting annual borrowing to 0.35% of GDP that was added to Germany’s constitution only in 2009, the country was stumbling along. It prided itself for fiscal prudence as Ukraine was battered, as its own infrastructure crumbled, and as its previous climate commitments fell by the wayside. While many observers recognised that Germany’s self-imposed neoliberal straitjacket had become one of its biggest problems, efforts to break free were blocked, including by the Christian Democratic Union (CDU), which had been instrumental in establishing the debt brake in the first place.
Fortunately, the CDU has finally had a change of heart. The impetus was not the party’s electoral victory last month, but Donald Trump’s inversion of US foreign policy. As if US Vice-President JD Vance’s open disdain for Europe at the Munich Security Conference in February had not been bad enough, he and his boss then browbeat Ukrainian President Volodymyr Zelensky in the Oval Office, before rudely showing him the door.
This dismaying spectacle prompted CDU leader Friedrich Merz, Germany’s chancellor-in-waiting, to proclaim that Europe must end its dependency on the United States. He is fully on board with establishing a new European security network and departing from Germany’s fiscal regime. On March 4, the CDU, together with its junior coalition partner, the Social Democrats, announced a softening of the debt brake. Germany will raise hundreds of billions of euros to invest in its neglected military and infrastructure.
But as bold as this might sound, it falls well short of the obvious solution: scrapping the debt brake altogether. There is no reason to bind governments’ hands as they pursue necessary increases in military and infrastructure spending. Moreover, what will happen when future needs require still more investments, including for other purposes, but the supermajority needed for constitutional reforms lies beyond reach?
The debt brake grew out of neoliberal distrust of government – and of the people who put governments in power. The more that power over money and finance can be moved from the people and their elected representatives to markets and independent agencies, the better.
Obviously, this impulse is deeply anti-democratic, since it deprives the polity of one of its most formidable prerogatives: power over the public purse. Ironically, the German plaintiffs who have repeatedly tried to rein in the European Central Bank’s monetary policies, often with the blessing of Germany’s Constitutional Court, have made the same point when rallying against the ECB. And yet, German neoliberals openly embraced the anti-democratic impulse of the debt break.
Fortunately, the Court of Justice of the European Union did not take the bait in these cases. If it had, the ECB would have been deprived of the power to loosen the money supply during financial and public-health crises. Worse, the combination of rigid fiscal and monetary policies would have left austerity as the only option – a recipe for the kind of political radicalisation that gave us Brexit.
This brings us to a second taboo that needs to fall: the aversion to monetary financing. Widely disparaged as a recipe for inflation and irresponsible government, monetary financing has, in fact, helped many countries cope with huge, unexpected expenditures. In a paper on the “dysfunctional taboo” against monetary financing, Will Bateman of the Australian National University and Jens van ’t Klooster of the University of Amsterdam show that such occasions have included wars, financial crises, and pandemics.
Curiously, the policy paper that Merz’s incoming government offered to support its proposed fiscal Zeitenwende makes no mention of monetary financing. It explains how the United Kingdom deprived itself of the capacity to mobilise effectively against Hitler’s Germany in the 1930s, because it prioritised fiscal prudence over defence capacity; but it says little about how the victorious powers financed the war. True, in the US, taxes went up, ordinary citizens bought war bonds, and financial intermediaries invested in Treasuries. But without the Federal Reserve buying significant amounts of US short-term debt and managing interest rates, these solutions would not have sufficed.
The question, then, is whether the ECB is ready to backstop government-debt financing of investments in defence and other critical needs. Given governments’ difficulties raising taxes in a world of capital mobility, this will be crucial.
Fortunately, the ECB has come a long way since the 2008 financial crisis and its aftermath, when it refused to refinance Irish and Greek debt. During the Covid-19 crisis, it proved its mettle by providing liquidity when no-one else could. Since these measures did not face serious challenges in court, the ECB should recognise that it has more policy and legal flexibility than it had previously.
It took a pandemic and the threat of war to get here, but at long last Germany might be able to dispense with the two taboos – debt and monetary financing of budgets – that have strangled governments for decades. Rigid dogmatism should be replaced with more pragmatic management of fiscal and monetary affairs. This moment demands what economist Isabella M Weber of the University of Massachusetts calls “anti-fascist economic policy.” — Project Syndicate
• Katharina Pistor, Professor of Comparative Law at Columbia Law School, is the author of The Code of Capital: How the Law Creates Wealth and Inequality.