Purse Strings

Wiggle Room for Sovereign Debt

Baustelle Warschauer Straße in Berlin-Friedrichshain
Is it advisable to finance investments in infrastructure with public debt?
  • Why it matters

    Why it matters

    As calls increase for more public investment projects in the European Union, Germany must consider how best to finance the renovation of its crumbling infrastructure without deviating from its goal of a balanced budget by 2015.

  • Facts


    • Germany reached the E.U. target of spending at least three percent of its GDP on research and development last year.
    • The original cost estimate for the new Berlin airport was €1.7 billion ($2.18 billion). It is now €5.4 billion.
    • German Finance Minister Wolfgang Schäuble wants to achieve a balanced budget by 2015.
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Politicians in Europe have a new pet project: More investment. Germany is being accused of neglecting its infrastructure and doing too little to spur economic growth in Europe, and the federal government is being urged to abandon its goal of a balanced budget in 2015 and spend more money on roads, bridges and other projects.

This raises two questions. Should the German government invest more? And, is it advisable to finance those investments with public debt?

It is indisputable that the state can no longer put off repairing dilapidated roads and buildings. Nevertheless, the investment gap in Germany is not as large as is often claimed. Higher rates of investment in other European countries can be explained, in part, by the rise in building costs during the debt-driven building boom. Additionally, Germany already has a highly developed infrastructure and a saturation effect occurs.

Besides, Germany isn’t lagging behind everywhere. For example, the goal set by the European Union that each member country spends at least three percent of its GDP on research and development was reached by Germany in 2013, well above the E.U. average of only two percent.

Infrastructure projects must be carefully planned and closely monitored. Need I mention the Berlin airport? It was meant to open on June 3, 2012, but due to insufficiently monitored construction, it couldn’t pass inspection and is now not expected to open until after 2017. The original cost estimate was €1.7 billion ($2.18 billion) and is currently at €5.4 billion ($6.91 billion). We’ve learned from this debacle that limits on increases in expenditures must be set at short notice.

Public investments do not automatically justify increased borrowing.

If we want to moderately increase infrastructure investments, would debt financing be sensible? Advocates of greater public borrowing like to cite the golden rule, that public consumption expenditures cannot be financed on credit, because debt servicing will devour the government treasury.

On the other hand, public investments are a different matter. They are not consumptive – and here credit financing is permissible, because more public assets face the debts.

However, they forget the golden rule of borrowing applies only to the amount of the net investments. Public infrastructure is subject to a certain amount of wear and tear, like other investment goods. Maintenance must be financed through current income or, otherwise, the government is living off its capital. The fact that infrastructure is crumbling doesn’t mean it requires a debt-financed renewal program – quite the opposite.

What does all this mean for Germany’s  financial policy? First, public investments should be increased slowly, otherwise the efficiency of the projects will suffer. This approach, however, will generate little in the way of short-term economic stimulus.

Second, public investments do not automatically justify increased borrowing. At best, partial financing through credit makes sense. A compromise could be found by agreeing to additional investments, but only if they are financed through a 50 percent reduction in expenditures and 50 percent in borrowing. This would offer proof that the government is interested in providing more for the future than additional debt.

What does this all mean for Finance Minister Wolfgang Schäuble’s famous “schwarzer null,” or black zero, meaning a balanced budget in 2015? It certainly is compatible with more investments if private financing is used, but it’s questionable whether the government should resort to such budgetary tricks. It may help Germany maintain financial discipline, but our European neighbors get an impression of dogmatism and a lack of solidarity.

Tightly limited borrowing for more investments is in line with the debt ceiling anchored in German basic law as well as with the European Fiscal Compact. It would be a signal to our European neighbors that we take their demands seriously, just as we expect them to respect our concerns and adhere to the agreed upon debt limit.

To contact the author: gastautor@handelsblatt.com

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