INCREASED DEFENSE SPENDING TO PROMOTE AN ECONOMIC REVIVAL?

17.03.2025 The German Parliament voted on Tuesday to allow much greater fiscal flexibility. Below we look at the implications for the European economy and equities.

The German government’s borrowing and spending rules have been governed, for the last fourteen years, by what was known as the ‘debt brake’.  This required both the Federal government and the German states (Lander) to run balanced budgets.

However, the new Chancellor Friedrich Merz, has negotiated an end to this arrangement.  Instead, the Federal Government will be able to borrow to finance military expenditure while a E 500 bn fund (12% of annual output (GDP)) will be set up to fund infrastructure investment. This is expected to lead to an increase in government spending of between 1 and 2 percent of GDP.

The impact on German growth will be more limited. Not only will it take time to implement these proposals but also quite a lot of the money may end up being spent on foreign military equipment. So, it might only boost growth by half a percentage point per annum from 2026.

The ability of other Eurozone countries to follow suit will be more restricted. Most Eurozone economies have much higher deficits and debt levels. So overall it might only increase Eurozone GDP growth by 0.3 percentage points. Still in the context of GDP forecasts of 1 around percent this is clearly meaningful.

Eurozone equities remain an attractive diversifier from historically expensive US equities. It remains to be seen whether the US technology companies have over invested in Artificial Intelligence infrastructure. 

For information only. Investors should seek professional advice for their own circumstances before making an investment.

Categorised in: Uncategorised

This post was written by Robin