Fiscal Policy and Rebalancing in the Euro Area: A Critique of the German Debt Brake from a Post-Keynesian Perspective

Abstract

The German debt brake is often regarded as a great success story, and has therefore served as a role model for the Euro area and its fiscal compact. In this paper we fundamentally criticize the debt brake. We show that (1) it suffers from serious shortcomings, and its success is far from certain even from a mainstream point of view; (2) from a Post-Keynesian perspective, it completely neglects the requirements for fiscal policies of member-countries in a currency union and will prevent fiscal policy from contributing to the necessary rebalancing in the Euro area; and (3) alternative scenarios, which could avoid the deflationary pressures of the German debt brake on domestic demand and contribute to internally rebalancing the Euro area, are extremely unlikely, as they would have to rely on unrealistic shifts in the functional income distribution and/or investment and savings behavior in Germany. The German debt brake is often regarded as a great success story, and has therefore served as a role model for the Euro area and its fiscal compact. In this paper we fundamentally criticize the debt brake. We show that (1) it suffers from serious shortcomings, and its success is far from certain even from a mainstream point of view; (2) from a Post-Keynesian perspective, it completely neglects the requirements for fiscal policies of member-countries in a currency union and will prevent fiscal policy from contributing to the necessary rebalancing in the Euro area; and (3) alternative scenarios, which could avoid the deflationary pressures of the German debt brake on domestic demand and contribute to internally rebalancing the Euro area, are extremely unlikely, as they would have to rely on unrealistic shifts in the functional income distribution and/or investment and savings behavior in Germany.

Keywords: Fiscal Policy, Rebalancing, Functional Income Distribution, Debt Brake, Germany, Euro Area

JEL Classification: E25, E61, E62, E64, E65, H62, H63