Should Germany be concerned over its national debt?

Fear of all-consuming debt is quite widespread in Germany, with recent local media coverage obsessing over the country's debt.

Yet, while Germany faces many problems today, debt is not one of them, writes The Economist, a British magazine.

Discussions on the extent of Germany's debt ensued after the nation's constitutional court ruled that a government plan to repurpose a €60 billion (€65 billion) COVID relief loan was unlawful. Without the necessary cash to make critical investments, the government now must make drastic adjustments to its 2024 budget.

The government could potentially collapse over the question of whether or not the country should continue to take out loans and ignore its debt brake enshrined in the German constitution or reign in state spending.

When does debt get dangerous?

The underlying fear is that Germany's national debt could become problematic. But when does that become the case? The simple answer could be whenever it becomes expensive for countries.

It can become especially costly when people like Christian Esters, head of the sovereign ratings department at the US rating agency S&P, downgrade Germany's creditworthiness. S&P is regarded as the world's largest and most influential rating agency — ahead of Moody's and Fitch, two other American firms.

The creditworthiness ratings from Esters and his team can have far-reaching consequences. Their assessments determine whether or not states are deemed bankrupt and how much it will cost them to take out fresh loans. The lower their credit rating, the greater the cost of taking out new loans.

Discussions often center on total public debt. In Germany, many are familiar with the Schuldenuhr, or debt clock, which displays the extent of German public debt for everyone to see.

German debt has grown since 1950 and currently stands at €2.5 trillion ($2.68 trillion). This puts Germany in third place in the eurozone, behind France and Italy.

Esters, however, says gross public debt isn't a key metric. "Absolute government debt is not put in relation to the size of a country's economy, " he told DW.

Sometimes, the national debt to per capita is discussed instead. In Germany, the national debt per capita currently stands at €31,000 ($33,320).

However, this metric does not help in assessing a country's overall creditworthiness either. Judging by this metric, countries in the global north often appear significantly more indebted than the populous states of the global south. Yet comparing rich and poor nations is also misleading, Esters told DW.

He said that public debt is only one factor considered when conducting a credit rating. "There are also several other factors, for example, how much of the state budget is spent on paying interest."

The higher the interest, the more outstanding the debt. Yet interest rates also depend on inflation rates in the sense that central banks try counteracting inflation by raising interest rates.

"Inflation is one of the factors determining the effectiveness and credibility of monetary policy," Esters told DW.

Regarding inflation, Germany ranks somewhere in the middle of the pack compared to other countries worldwide. While total global inflation has increased slightly in recent years, it remains moderate compared to the 1980s and 1990s. That said, inflation should be taken seriously.

"High inflation can lead to a drop in purchasing power and reduce [a country's] international competitiveness," Esters told DW. As such, inflation is key for determining a country's creditworthiness.

Political factors also impact how much states have to pay for taking out fresh loans, Esters said. "It is important to emphasize that we do not only take fiscal factors into account," he told DW.

"The last few years, in particular, have shown that institutional predictability and stability play an important role. Countries can get into debt crises when their political institutions are weak."

This can cause a vicious circle. After all, debt can play a crucial role in weakening political institutions. According to S&P, global government debt grew by an average 8% of GDP since the coronavirus pandemic, which has increased pressure on national budgets, especially now that interest rates are high.

"A larger proportion of government revenue has to be spent on interest, and this reduces fiscal flexibility, for example, to react to future shocks or crises," Esters said.

Significant government debt does have to equate to low household savings. In Germany, for example, many still save a lot. 

S&P has seen credit ratings improving in 2023, despite immense debt incurred in recent years for coronavirus relief packages, economic restructuring and supporting Ukraine defend itself against Russia. Looking ahead to the coming years, however, things don't look quite so promising.

"We expect more negative than positive credit rating changes in the next one to two years," Esters said. The decisive factor, he added, is political risk, not accumulating debt.

Esters is optimistic about Germany's future despite the possibility of new debt. He said even in 2010, when Germany's public debt stood at 80% of GDP, there was no doubt about its creditworthiness, and its rating remained a stellar AAA.

This article was translated from German.

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