Auf Wiedersehen, Schuldenbremse. Hallo, Sondervermögen.

Admittedly, as a native German speaker, I may be biased. But I genuinely believe that the German language has given the world some of the most ingenious and downright beautiful expressions. And I don’t say that just out of patriotism—words like Schadenfreude and Zeitgeist have become global hits. Now, I think it’s time for investors to forget one German word—Schuldenbremse—and add another one—Sondervermögen—to their vocabulary.

Last night, the top brass of Germany’s conservatives (CDU/CSU) and Social Democrats (SPD) gave their first big update on coalition negotiations. And boy, they did not hold back. Their announcement marks nothing less than a fundamental shift in Germany’s approach to fiscal policy. Here’s our hot take.

Auf Wiedersehen, Schuldenbremse

The headline proposal would de facto hollow out Germany’s constitutional debt brake (Schuldenbremse), which had been designed to enforce a balanced federal budget. Under the new plan, all defence spending beyond 1% of GDP would be exempt from the rule. There would be no upper limit—meaning, in principle, the defence budget would be uncapped.

The rationale is politically understandable. With growing geopolitical risks and rapidly shifting transatlantic relations, the incoming German government wants more flexibility in military spending. But abandoning a firm commitment to fiscal discipline comes with consequences. Two main risks stand out to me.

• Refinancing costs: At the moment, Germany benefits financially from its relatively low government debt burden. This has a double advantage: first, it means paying less in interest on an already modest debt stock. Second, it allows Germany to be seen as a safe borrower, keeping bond yields low. Other eurozone countries with higher debt burdens—such as France and Italy—pay risk premiums, which is why their ten-year government bonds are currently trading at yields roughly 0.7 and 1.1 percentage points higher than Germany’s, respectively. But if Germany’s debt—and with it, its credit risk—were to rise sharply, investors could soon demand higher yields on Bunds, eroding Germany’s financing advantage.

• Systemic risks in the euro area: Abandoning the commitment to a balanced federal budget could also set a precedent for other eurozone countries, encouraging them to ramp up borrowing. A de facto departure from the Maastricht criteria in favour of a European debt race could introduce major systemic risks to the currency union. 

Hallo, Sondervermögen

The second major announcement last night was the creation of a €500 billion Sondervermögen to fund infrastructure investment. Translated strictly literally, Sondervermögen means “special wealth.” Sounds peachy. I mean, who wouldn’t like to be especially wealthy, right? But when German politicians refer to a Sondervermögen, they’re not talking about a treasure chest they stumbled upon during spring cleaning in the Chancellery’s attic. The term is a political sugarcoating for excess borrowing to fund a specific initiative. Without wanting to turn this blog into a linguistics seminar, it’s worth noting that the German words for debt (Schulden) and guilt (Schuld) are closely related, giving the concept of borrowing a distinctly moral connotation. Hence, many Germans instinctively recoil at the idea of their government taking on more debt.

Semantics aside, setting up a Sondervermögen allows the government to raise funds without breaching the Schuldenbremse. A Sondervermögen is essentially an off-balance-sheet budget earmarked for a specific purpose. That’s precisely what the Scholz government did in 2022 in response to Russia’s invasion of Ukraine. After announcing a major shift in Germany’s defence policy (Zeitenwende), Scholz pledged a €100 billion Sondervermögen to modernise the Bundeswehr. Yes, even more German words… 

This new €500 billion Sondervermögen, however, would dwarf Scholz’ initiative. For context, it would amount to 11.6% of Germany’s GDP (€4.3 trillion). But taking on such a massive debt load wouldn’t come free, of course.

How much would it cost?

The days of negative interest rates are long gone. That said, a Sondervermögen doesn’t mean the government would borrow the full amount in one go—it functions more like a standby line of credit, allowing borrowing over time up to a predefined limit. If the entire borrowing amount of €500 billion were drawn, how much interest would Germany have to pay?

Using different interest rate assumptions, we get the following: 

• At 2.1%: The lowest rate available on the German government bond curve is currently 2.1% at the one-year point. If, hypothetically, Germany could borrow everything at this rate, annual interest payments would amount to €10.5 billion.

• At 2.5%: A more realistic estimate is perhaps 2.5%, the current average yield across Germany’s one-, five-, ten-, and thirty-year bonds. This would raise annual interest costs to €12.5 billion.

For context, the 2024 budget of Germany’s mighty Federal Ministry for Economic Affairs and Climate Action was c. €11.1 billion. And these estimates might still be too conservative—hollowing out the Schuldenbremse and announcing a large Sondervermögen could push German government bond yields, and thus financing costs, higher as investors would likely demand a premium to compensate for increased debt levels. The fact that Bund yields rose noticeably this morning, following last night’s announcements, would support this notion.

Inflation risks

One major concern is inflation. Injecting hundreds of billions of euros into the economy via a new Sondervermögen could put upward pressure on inflation, making it harder for the ECB to lower interest rates. This, in turn, could prolong the current high-rate environment and exacerbate refinancing challenges—not just for Germany but across the eurozone.

Conclusions

Germany’s fiscal policy is at a turning point. The de facto dismantling of the Schuldenbremse and the creation of a €500 billion Sondervermögen are game changers for investors. 

• Higher borrowing amounts could erode Germany’s financing advantage, pushing up Bund yields. 
• For the eurozone, it could set a precedent for other countries to increase debt, raising systemic risks. 
• Massive infrastructure investment could keep price inflation high, delaying ECB rate cuts. 

One thing is clear: investors can say goodbye to the German austerity and fiscal discipline. The rules of the game have changed.