On February 23, 2025, Germans went to the polls, handing victory to the conservative CDU/CSU alliance, led by Friedrich Merz, with 28.5% of the vote. The far-right Alternative für Deutschland (AfD) made historic gains, securing 20.8% and becoming the second-largest party in the Bundestag. The Social Democratic Party (SPD), under outgoing Chancellor Olaf Scholz, suffered a significant defeat, dropping to 16.4%. The Greens obtained 11.6%, while the leftist Die Linke improved to 8.8%. The Free Democratic Party (FDP) failed to cross the 5% threshold, losing its representation in parliament. The newly formed Sahra Wagenknecht Alliance (BSW) narrowly missed the 5% hurdle, leaving the party empty-handed.

With no outright majority, coalition negotiations are underway. Merz is in talks with the SPD, aiming to form a government by Easter. Yet, AfD’s strong performance has unsettled mainstream parties, reflecting a growing populist sentiment within Germany.

A CDU/CSU–Green coalition would fail to reach a simple majority, and AfD and Die Linke are incompatible with CDU/CSU’s values. Thus, allying with the SPD as the only viable option. Ironically, this would allow the SPD to remain in government despite a resounding defeat.

The SPD, trying to repair its image, may push for considerable concessions from CDU/CSU, complicating negotiations.

Constitutional challenges

Merz has proposed a controversial workaround to Germany’s constitutional debt brake (Schuldenbremse) by using off-budget special funds (Sondervermögen). Although a vocal defender of fiscal discipline, he suggests temporarily suspending the Schuldenbremse to finance key investments, particularly in defense and infrastructure, without violating its formal rules.

This approach mirrors the Scholz government’s strategy to fund a €100 billion military upgrade after Russia’s invasion of Ukraine. By shifting borrowing outside the core budget, Merz aims to balance economic pragmatism with conservative fiscal principles. Critics argue it weakens the Schuldenbremse’s credibility and entrenches off-budget debt mechanisms.

Germany’s constitution (Grundgesetz) limits government borrowing and ensures long-term fiscal discipline. Enshrined in Articles 109 and 115, the Schuldenbremse restricts the federal government’s structural deficit to 0.35% of GDP per year, while the states (Länder) are prohibited from running structural deficits. Exceptions exist for emergencies, such as economic crises or natural disasters, but any deviation requires a repayment plan.

Introduced in 2009 in response to the financial crisis, the Schuldenbremse reflects Germany’s deep-rooted aversion to excessive debt. While praised for maintaining fiscal stability, critics argue it limits public investment and economic flexibility, especially during downturns.

The Greens and the FDP have been “informed of [Merz’s] proposals” without their party representatives present at the announcement. The current government fell apart over much smaller fiscal issues — one can only imagine how FDP, being fiscally conservative, must feel regarding these proposals.

Changing Germany’s constitution is deliberately difficult in order to ensure stability and protect democratic principles. Constitutional amendments require a two-thirds majority in both the Bundestag and Bundesrat, making broad political consensus essential. This rigidity prevents legal manipulations that once enabled authoritarianism. Even widely supported reforms often stall due to political fragmentation or federal-state disagreements, reinforcing the constitution’s role as a safeguard against abrupt shifts in governance.

A race against time

In the new Bundestag, Merz will not have the majority needed to make changes. AfD will nearly double its seats in parliament, from 83 to 152, only 12 seats behind CDU’s 164. Along with the Die Linke’s 64 seats, two non-centrist parties will control over a third of the Bundestag, enabling them to block decisions requiring a two-thirds majority.

In a stunning move, Merz proposed amending the constitution before the new parliamentary session begins at the end of March. He aims to increase borrowing, particularly for defense spending. The proposal requires a two-thirds majority in both the Bundestag and Bundesrat. Fiscal conservatives fear it could weaken Germany’s strict debt rules.

Some constitutional law experts argue the current Bundestag lacks the legitimacy to change the constitution since it no longer reflects the people’s will. Others disagree. Legal challenges are likely, with AfD and Die Linke threatening action.

Even if Merz’s proposal passes in the Bundestag, securing a two-thirds majority in the Bundesrat will be difficult. The Bundesrat represents Germany’s 16 Länder. Its 69 members are appointed by state governments, not elected. States must cast all their votes as a block — either all in favor, all against or abstaining. If a state cannot agree, its votes count as abstentions, making a two-thirds majority harder to reach.

Missing votes from six states, including those where Die Linke and BSW hold influence, would leave the remaining states with just one vote above the threshold. If any of the five states with Green-led governments abstain, the proposal fails.

The Bundestag will begin debating proposed reforms on March 13, with a vote scheduled for March 18. If the Bundesrat rejects the bill, a mediation committee (Vermittlungsausschuss) will be convened to negotiate a compromise.

The Vermittlungsausschuss has 32 members, 16 from each chamber. AfD, FDP, and Die Linke hold 10 seats combined. Members are not bound by directives or party mandates, leaving room for surprises. Lengthy negotiations or delays could make compromise impossible before time runs out.

Reactions at home and abroad

Germany’s Bundesbank has proposed allowing a maximum fiscal deficit of 1.4% of GDP, provided the debt-to-GDP ratio stays below 60%. The proposal has little chance of adoption, as Germany’s debt-to-GDP ratio currently sits at 62%.

Meanwhile, the EU is discussing adjusting its fiscal rules, particularly the Maastricht deficit criteria, to accommodate increased defense spending. These rules cap government deficits at 3% of GDP and public debt at 60% of GDP.

The EU may expand what qualifies as defense investment, including military equipment, arms manufacturing, and dual-use infrastructure. Germany has advocated for an indefinite exemption for defense spending from EU fiscal rules, a significant shift from its traditional fiscal conservatism.

The markets have had their own reaction to the developments. Expectations of increased European defense spending have driven up defense industry stocks. Companies like Rheinmetall, BAE Systems and Thales have seen share prices soar, some doubling within weeks, as governments boost military budgets in response to geopolitical tensions.

The proposed fiscal expansion will lead to increased government borrowing, higher bond issuance, and rising yields. German 30-year government bond yields saw their biggest daily increase since the fall of the Berlin Wall.

Despite this, the European Central Bank cut interest rates by 0.25 percentage points on March 6, disregarding inflationary risks from large government spending programs. Higher long-term rates in Europe increase the euro’s attractiveness, strengthening its exchange rate.

Germany’s shift away from fiscal rigidity marks a Zeitenwende — a historic turning point. Long committed to balanced budgets and the Schuldenbremse, Germany now faces pressures from geopolitical instability, economic stagnation, and aging infrastructure. Fiscal conservatives are reconsidering their stance.

This transformation mirrors Germany’s abrupt reversal in defense policy after Russia’s invasion of Ukraine. As pacifism gave way to military investment, fiscal discipline now faces challenges from economic and security realities.

European governments are likely to welcome Germany’s shift toward looser fiscal policies, as it could ease financial constraints across the eurozone. For years, Germany’s strict austerity stance clashed with the preferences of France, Italy, and Spain, which favored more flexible spending to stimulate growth.

What will happen next?

A more expansionary German budget could boost domestic demand, benefiting European exporters and reducing economic imbalances within the European Union. Increased German investment in defense and infrastructure would also align with broader European priorities, particularly as the continent seeks greater strategic autonomy. A less rigid German fiscal approach could pave the way for EU-wide initiatives, such as joint borrowing for defense or industrial subsidies, marking a shift from Berlin’s historical opposition to collective debt mechanisms.

Increased fiscal spending on defense and infrastructure may create jobs and stimulate economic activity, but it will not directly address the social and economic grievances fueling right-wing populism in Germany. Rising living costs, immigration concerns, and a growing disconnect between political elites and ordinary citizens have driven support for AfD. The party has capitalized on public frustration by positioning itself as the voice of the disillusioned.

Without targeted policies to address wage stagnation, housing shortages, and social cohesion, simply lifting fiscal restraints may not curb the populist surge. If higher spending triggers inflationary pressures or tax hikes, it could even deepen resentment, reinforcing the populist narrative of an out-of-touch establishment.

The views expressed in this article are the author’s own and do not necessarily reflect Fair Observer’s editorial policy.