In its new annual report, the Council of Experts for the Assessment of Overall Economic Development warns urgently of a national debt crisis. The task facing Germany is “of historic proportions and will require tough decisions,” says the analysis that the five “economists” handed over to Chancellor Friedrich Merz (CDU) on Wednesday.
The background to this is the high debt that is being taken on for the defense sector and has largely not been counted against the debt brake since spring 2025. In the opinion of the Council of Experts, this cannot remain the case because otherwise the debt ratio would rise to up to 100 percent.
However, shifting defense spending back to the normal budget would result in spending exceeding revenue. At the same time, social and interest costs are also growing. The financing gap would therefore be around 300 billion euros in 2040. "It is clear that something has to happen now. We have no other choice," said council chairwoman Monika Schnitzer to the Handelsblatt.
To close the gap, the economists are making proposals to first reduce government spending, including a reform of the commuter allowance and company car privileges as well as a comprehensive pension reform.
In addition, four of the five council members expect that this is not enough. They also believe that an increase in revenue is inevitable and are bringing a higher VAT, increases in income tax and a new “defense levy” into play.
When handing over the report, Chancellor Merz said that he fundamentally shared the Council's assessments. Economic growth alone will not be enough “to compensate for these deficits”. Merz explained: “That is why we are facing very far-reaching financial policy decisions in the next few weeks.” The federal government is therefore working on making social security more efficient, reducing subsidies and making savings in administration. He did not respond to the tax increase proposals.
In the spring of 2025 after the federal election, the CDU/CSU and SPD, with the help of the Greens, ensured that all defense spending that exceeds one percent of gross domestic product (GDP) would not be subject to the debt brake. This turnaround in financial policy should enable Germany to rearm again in order to deter Russia and compensate for dwindling support from the USA. In 2026, around 98 billion euros are to be financed via this “area exception”.
What was not agreed upon at the time was a plan for how the resulting debts would be dealt with in the future. Instead, the black-red federal government set up a commission of experts to address the issue. However, the Commission will probably not be able to agree on a common proposal. It is completely unclear how the Union and the SPD will proceed.
In the first step, the economists looked at what would happen if defense spending continues to be financed primarily through debt, as is currently the case. This would result in Germany's debt level growing from the current level of around 63 percent to 98 percent by 2040. That would be about the same as the UK and still less than Italy or France.
The Council of Experts therefore suggests ending the debt brake exception by 2031 at the latest. The Bundesbank had already made a similar proposal and wanted to shift defense spending amounting to 0.5 percentage points of GDP back into the budget annually. The Council of Experts wants to extend this a little longer and is proposing 0.25 percentage points of GDP.
There are three scenarios when it comes to the development of the budget, assuming that it would not otherwise be cut: Scenario 1: If defense spending were simply to continue to be financed with debt as before, the pressure on the budget would not increase quite as much. The federal government would still have a problem: in 2040, income would still be so much higher than expenditure that a financing gap of 175 billion euros would open up. Scenario 2: If defense spending were transferred to the budget, as suggested by the Council of Experts, the financing gap would be correspondingly larger. It would be around 300 billion euros in 2040. Scenario 3: If defense were included in the budget more quickly as suggested by the Bundesbank, the gap would be just over 300 billion euros.
The Council of Experts makes a number of suggestions to narrow the gap. He suggests cutting many government spending: He sees the greatest potential in reducing subsidies (21 billion euros). Further reductions in subsidies are to be achieved through the elimination of inefficient tax breaks (17 billion euros). Further tax breaks, for example for diesel, are to be eliminated, as are the commuter allowance and the company car privilege (17 billion euros). In the social sector, economists want to ensure lower spending through reforms. The pension commission's proposals, such as the abolition of early retirement without deductions, should be fully implemented (ten billion euros). The CSU's prestigious mother's pension project could also be withdrawn in its third stage (five billion euros). In addition, consideration should be given to lifting the stabilization of the pension level at 48 percent (up to 15 billion euros). A flat-rate reduction in the federal administration's personnel costs by ten percent is also possible (3.3 billion euros). Further proposals concern the efficiency of the tax system, such as a reform of spouse splitting and privileges for real estate (five billion euros).
For four of the five economies it is therefore clear: “It cannot be expected that an increase in sales and income taxes can be avoided in the medium term.” They make four suggestions: VAT could be increased (revenue potential: 7.5 to 22.5 billion euros). Income tax could be adjusted (revenue potential: four to 11.6 billion euros). The Council of Experts proposes a “defense levy” (potential revenue: ten to 30 billion euros). The withholding tax could rise to 28 percent or 32 percent (revenue potential: 0.8 to 1.7 billion euros).
However, not all members of the Advisory Council have agreed to the plan. Veronika Grimm wrote a minority vote on the chapter. Essentially, it can be summarized as follows: She believes the spending cuts don't go far enough and she considers the proposals for tax increases to be dangerous. Grimm believes that the Council majority is not asking enough questions about how the German economy can grow more strongly again through structural reforms such as the dismantling of regulations.
