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19 June 2017

Is Ger­man pub­lic in­vest­ment head­ing for a sus­tained up­swing?

  • With an average annual growth rate of 3.8% since 2005, public investment in Germany has been growing at a faster pace than total expenditure and nominal GDP respectively.
  • The buoyant trend in general government investment has been, to a large extent, driven by the Federation. In addition to increasing investment expenditure within the federal budget, the Federation has also provided financial relief for the Länder (federal states) and local authorities, allowing them to channel more money towards investment.
  • Public investment is expected to grow by an annual average of 5% in the coming years. The number of orders for public civil and structural engineering projects indicates that investment will be playing a far more important role in public budgets.
  • Furthermore, the general government investment rate also includes private sector investments, which constitute the larger share of investments.

Introduction

How much public investment is needed in Germany is currently the subject of debate in political and academic circles alike. Some studies show a significant need for public investment in Germany and claim that the public investment rate in Germany is too low. At the same time, indicators regularly testify to the high quality of German infrastructure, while sound public budgets allow for greater investment activity. The present study shows how federal policy has consistently oriented public budgets towards investment and describes the measures supporting investment within the federal structure.

Public investment trends in Germany

Public investment in Germany totalled 2.1% of GDP in 2016 according to the definition used in the national accounts, the standard definition for international comparisons.

Analysis of the historical trend shows that, between the early 1970s and the late 1980s, the investment rate sank continuously, ultimately falling to 2.5% of GDP and increasing only briefly to over 3% of GDP when investments received a boost from the measures to promote the development of eastern Germany. Within a wider context of structural economic weakness, the investment rate sank even further during the period up until 2005, down to its all-time low of 1.9% of GDP. Since then, public investment levels have recovered: With an average annual growth rate of 3.8%, public investment is posting solid increases and growing at a faster pace than both total expenditure and nominal GDP. After a short peak induced by the stimulus packages that were put in place during the financial and economic crisis, the investment rate has now stabilised at 2% of GDP. The historical trend described above indicates that the public investment rate is subject only to minor long-term variation, meaning that the current annual growth of 3.8% can absolutely be regarded as a surge in investment.

Infographic shows the public investment in Germany from 1970 to 2021. Percentage of gross domestic product.
Infographic: Public investment at the federal level in Germany (as defined in the national accounts), percent of gross domestic product.

Federal policy measures within the federal structure

The Federation, Länder and local authorities have launched and implemented a large number of measures since 2005 which have contributed to the current above-average increase in public investment. A new emphasis was placed on investment in higher education and research, in particular with the Higher Education Pact, the Initiative for Excellence and the Pact for Research and Innovation. With the two stimulus packages deployed between 2009 and 2011, the Federation took further measures to increase investments in the short term.

How public investment develops at the general government level depends not only on investment by the Federation, but also on investment by the Länder and local authorities, which accounts for roughly two thirds of all public investment. The current legislative term (which began in 2013) has seen the Federation strongly increase its investment expenditure and provide considerable financial relief to the Länder and local authorities, thus creating new possibilities for ramping up investment. The key measures are shown in the table below. Important measures to provide financial relief to the Länder and the local authorities include measures to support local authorities with social spending, for example by taking on the full costs of basic income support provided to elderly persons and to persons with reduced earning capacity, and by contributing towards housing and heating costs as part of basic income support for jobseekers. Furthermore, the Federation gave the Länder full relief for the costs of providing financial support for students in higher education, as set out in the Federal Training Assistance Act (Bundesausbildungsförderungsgesetz) and has made considerable funds available through targeted support programmes, for example the Local Authority Investment Promotion Fund. The Federation also gave the Länder financial support for dealing with the influx of refugees by according them a larger share of VAT revenue.

The Federation’s main additional measures to boost Länder and local authority investment and investment capacity
Year implementedMeasuresComments*)

2014

 

Maintaining and expanding federal transport infrastructure
  • €5bn from 2014-2017 (priority measures stated in the coalition agreement)
  • €1.8bn annually in 2018-2019
ResearchAn additional €3bn invested by 2017, mostly to finance the Initiative for Excellence and the Pact for Research and Innovation

2015

 

Expansion of child care facilities for children under the age of three
  • Cost of investment: €550m in total for the period from 2016-2018
  • Contribution towards operating costs: an additional €100m p. a. for 2017 and 2018 (in total, €945m p.a. for operating costs)
Full relief for the costs arising from the Federal Training Assistance Act (Bundesausbildungsförderungsgesetz)€1.17bn p. a., open-ended
Legislation to provide additional financial support to the Länder and local authorities from 2015 onwards€1bn p. a. for 2015-2017 (half via accommodation costs and half via the local authorities’ share in VAT revenue)
Legislation to (a) promote more investment by local authorities with inadequate financial resources and (b) help the Länder and local authorities pay for the cost of receiving and accommodating asylum seekers
  • Financial support provided via the Local Authority Investment Fund: €3.5bn in total, starting 2015, initially scheduled to end in 2018; extended until 2020 due to a financial bottleneck at local authorities following the influx of refugees
  • €1bn via increased share in VAT revenue for local authorities and €500m via an increased federal quota for the cost of accommodation for 2017
Additional investment in federal roads through additional toll revenueAdditional funds from “user pays” system by expanding the toll for heavy goods vehicles from 1 July/1 October 2015 onwards; estimated investment share until 2019: €1.24bn
Key points for implementing the transition to renewable energyUp to €5.8bn from 2016-2020 for additional investments in increasing the energy efficiency of buildings (also covering local authorities and industry)

2016

 

Increase in ‘unbundling’ funds – funds paid out by the Federation to the Länder to back projects that were previously financed jointly – to promote social housing in connection with the Act to Expedite Asylum Procedures (Asylverfahrens-beschleunigungsgesetz)€500m p. a. 2016-2019
Improved child care in connection with the Act to Expedite Asylum Procedures€1.983m of financial relief in line with the new VAT revenue distribution arrangement (2016: €339m, 2017: €774m, 2018: €870m)
Expansion of the regional railway systemFederal subsidies for public transport increased by €800m in 2016, to €8.2bn; scheduled for a dynamic adjustment of 1.8% p. a. from 2017-2031
Package for investing in the future

An additional €10bn allocated to public investment, in particular investments in infrastructure and energy efficiency, between 2016-2018. Of that:

  • €7bn for additional investments including public transport infrastructure, measures to boost energy efficiency, investments in  digital infrastructure, in climate change mitigation and urban development
  • €3bn (€1bn p. a.) in additional funds for line ministries to finance the additional costs of the home childcare allowance (Betreuungsgeld)

2016

Federation pledges to cover local authorities’ costs for all housing and heating for recognised asylum seekers and refugees.

Legislation entered into force on 7 December 2016.

Fiscal relief amounts to €400m for 2016 and is estimated to reach €900m in 2017 and €1.3bn in 2018

2016

Annual block grant for integration purposes

Legislation entered into force on 7 December 2016.

Annual block grant from the Federation to the Länder totalling €2bn p.a. for integration purpose for the 2016-2018 period

2016

Additional ‘unbundling funds’; legislation entered into force on 7 December 2016.Additional annual payments to the Länder of €500m for residential construction in 2017 and 2018

2017

Local Authority Investment Promotion Fund increased

Bill adopted by the Federal Cabinet on 14 December 2016.

(Budgetary authorisation by the 2016 Supplementary Budget Act of 31 March 2017)

Local Authority Investment Promotion Fund increased by another €3.5bn to encourage investments to develop school infrastructure by local authorities with inadequate financial resources from 2017-2020

2018

Further support for local authorities

Legislation entered into force on 7 December 2016.

From 2018, €5bn p. a. to be provided via local authorities’ share of VAT revenue, federal participation in accommodation costs and the Länder share of VAT revenue

2020

Reorganisation of the financial relations between the Federation and Länder

Bill adopted by the Federal Cabinet on 14 December 2016.

 

The financial relations between the Federation and the Länder are undergoing extensive reorganisation. From 2020 onwards, the Federation will be providing support to the Länder initially totalling €9.7bn. The financial relief for the Länder will be paid out primarily via the revised vertical distribution of VAT revenue (approximately €4bn), increased supplementary federal grants (approximately €4.7bn) and via restructuring aid for the federal states of Saarland and Bremen (€0.8bn). The amount of financial support provided to the Länder in the future will mainly depend on tax revenue trends and the broader economic development.
*) The financial impact of individual measures was calculated at the time when the measure in question entered into force or when it was adopted. This non-exhaustive overview provides information on programme volumes, increases in allocated shares, political commitments and estimates for revenue increases and shortfalls.

Investments by the Länder and the local authorities

In 2016, the Länder and local authorities received €14.3bn more than in 2005 in ongoing allocations and investment allocations from the Federation. Public investment by the Länder and local authorities was €16.9bn higher in 2016 than in 2005, and public investment has been rising in line with the increasing allocation of financial resources by the Federation since 2005. Additional allocations by the Federation have thus made a key contribution to boosting investments by the Länder and local authorities.

In addition to increasing its allocations, the Federation has also provided additional financial support to the Länder and local authorities during this legislative period by granting them a larger share of VAT revenue, as described above. While these freely available funds have increased the resources available to the Länder and local authorities, they have not triggered much new investment – so far at least. Rather, the Länder and local authorities have tended to use the adjustments to the VAT revenue distribution to reduce budgetary deficits and build up surpluses. Taking into account the multiple adjustments to the distribution of VAT revenue in favour of the Länder and local authorities, the total financial support from the Federation in the form of high-level allocations and additional VAT revenue was even €22.7bn higher in 2016 than in 2005. In the past two years in particular, the financial relief for the Länder and the local authorities made a strong contribution to the aggregated budget surplus of €16.6bn.

While the Länder and the local authorities have not yet made extensive efforts to boost their investment levels, it can be assumed that part of the resources described above will also be used to boost investment in the coming years.

The graphic shows the gross investment by the Länder and local authorities between the years 2010 and 2016 in billion euro.

Fiscal consolidation and investments: a comparison at the European level

Fiscal consolidation and public investment increases can very well go hand in hand, as is illustrated by a comparison between budgetary developments in Germany and in other eurozone countries: A comparison between the situation in 2016 and the situation in 2005, i.e. before the financial and economic crisis, shows that Germany took greater steps to boost both consolidation and investment than the other four largest economies. Germany’s government revenue in 2016 exceeded that of 2005 by a total of €427bn, representing an average increase of 3.3% per year. Simultaneously, expenditure rose by €327bn, i.e. an average of +2.5% per year, which included an increase in public investment of €23bn, i.e. an average of +3.8% per year. Germany’s general government balance was increased by a total of €102bn, with the general government deficit of €78.7bn (3.4% of GDP) being transformed into a surplus of €23.7bn (0.8% of GDP).

Investment in the eurozone did not keep up, in part because of the financial and economic crisis: While spending in 2016 was up by an annual average of 2.4% over 2005, investment increased by an annual average of only 0.3%. The eurozone has only very few member states which can boast stronger investment than Germany – Slovakia, Lithuania, Latvia, and Estonia, which are all located in eastern Europe.

The accusation that is frequently levelled at Germany in the public debate – that Germany supposedly consolidated its public budget at the expense of investment – seems unjustified. On the contrary, the above discussion shows that sustained investment can only get underway if public finances are sound.

Trends in revenue, expenditure and public investment in the five largest eurozone economies, 2005-2016

Revenue

increase

Expenditure

increase

Change in

investment levels

Change in 

structural balance

€ billion

 %*

€ billion

%* 

€ billion

%* 

 € billion

Germany4273.3%3252.5%233.8%102
France3002.7%3202.7%50.6%-20
Italy1481.9%1271.5%-9-2.1%21
Spain541.3%1162.6%-17-5.2%-62
The Netherlands782.7%732.5%31.4%4
The eurozone1,2382.6%1,1852.4%80.3%53
* Annual average growth rate

Comparing public investment in an international context

  • The EU’s budgetary surveillance regime, which determines whether member states are complying with the requirements of the Stability and Growth Pact, is based on the European System of National and Regional Accounts (ESA 2010). ESA 2010 also provides a standardised definition of public investment as including the purchase or production of material and non-material assets by the state, in particular in the form of buildings, equipment (including military weapons systems), and research and development activities.
  • Generally speaking, this definition allows for international comparisons of public investment levels in individual member states. However, there is also considerable international variation in how the spending ratios are calculated, i.e. whether spending is attributed to the state or to economic entities in the public sector.
  • When countries with different government spending ratios or a markedly different allocation of functions between the economic entities in the public and the private sector are compared on the basis of their public investment levels alone, the results fail to accurately describe the actual situation. At 44% of GDP, for instance, Germany’s spending ratio is considerably lower than the spending ratio of France, which is 56% of GDP.
  • The distribution of tasks between the public and private sector can vary widely: For example, public healthcare can be organised around public or private hospitals to varying degrees, and the national rail system can be classified either as part of the public sector or part of the private sector.
  • In any case, public investment in most countries accounts only for the smaller proportion of total investment; in Germany, public investment accounts for approximately 10% of total investment. This is why aggregate investment ratios which include both private and public-sector investments are far more informative, especially in international comparisons.

Public investment projections

Federal investment spending and public investment according to the European definition

According to projections of the 2017 German Stability Programme, public investment is expected to increase by an annual average of approximately 5% in the coming years. Investment already increased by an average of 4.5% per year in 2015 and 2016, which is an increase that is higher than the growth rate in total spending and GDP.

The German definition of federal investment spending is not, however, identical to the definition of public investment set out in the European System of National Accounts (ESA 2010). The forecast for public investment at the general government level (Federation, Länder, local authorities and social security funds) is based on the investment spending definition used in the federal budget and the government draft for the federal budget. Federal budget investment spending includes construction, purchases of movable and immovable property and other spending on investment and measures to promote investment. On the one hand, this includes spending on acquisitions of holdings, international transfers, loans, guarantees and investment subsidies, which do not count as public investments according to the European definition. For example, investment grants disbursed to Deutsche Bahn are not classified as public investments because Deutsche Bahn is not considered part of the public sector, but part of the private sector, because ESA 2010 goes by the economic reality of an economic unit operating in accordance with market economy principles, rather than the legal ownership, as in this instance, where the Federation is the legal owner of Deutsche Bahn.

On the other hand, the ESA 2010 definition indirectly classifies other federal budget expenditures as investments. These expenditures include:

  • Expenditure for military construction and weapons systems,
  • Expenditure for research, which is capitalised as an immaterial asset in the ESA 2010 definition,
  • Federal research institution allocations, which are also capitalised in the ESA 2010 definition.

Furthermore, the projection of general government investments according to the European definition also includes federal investment allocations and other allocations made to the Länder and local authorities – which have in turn been able to increase their investment capacities – as well as the financial relief granted to the Länder and local authorities via the adjustments to the distribution of VAT revenue.

Based on the aggregate of federal investment measures and financial transfers to the Länder and local authorities, an average annual annual growth rate of roughly 5% in public investment can be expected for the period from 2015–2020/2021. In view of the solid increase in the public budgets and the surpluses generated in the past two years, an investment increase by the Länder and local authorities as projected is absolutely feasible.

Why is public investment growth described in annual averages?

Describing investments in terms of average annual growth rates reflects how investments are recorded according to the European definition (for example in terms of construction progress or delivery dates), as opposed to recording the charge to the budget upon cash outflow. This method for describing investments is designed to counter the illusion of accuracy created by specific annual forecasts.

Infographic shows the government investment which implies strong growth since 2014.

Are we heading for a public investment boom?

Construction order statistics, which serve as an early indicator of wider macroeconomic developments, clearly show that the positive trend in public investment is set to continue as forecast. Public structural and civil engineering orders, including contracts for road construction, are at a level last reached at the turn of the century. Orders in the road construction sector are peaking at a level not seen since German reunification. However, the surge in public construction orders is coming up against capacity bottlenecks in the construction sector. These capacity shortages, together with lengthy planning permission processes and construction design procedures, are the main reasons why investments cannot be ramped up immediately. This problems can only be solved with the help of a long-term strategy.

For this reason, the German government has, alongside the budgetary measures, also launched structural measures with the goal of improving access to public investment. For example, the federal government has created a special advisory service which provides support for the realisation of public investment projects. The entirely state-owned consulting agency Partnerschaft Deutschland – Berater der öffentlichen Hand GmbH provides support for public investment projects, especially those carried out by local authorities, with the aim of ensuring that their implementation is speedy and economical.

Infographic shows the public-sctor construction orders in Germany from 1991 to 2016.

Conclusion

Germany’s public budgets are geared towards continual growth in public investment. The number of public construction and civil engineering contracts indicates that an unusually buoyant trend lies ahead. The Federation is supporting this development not only by increasing its own investments, for example in transport infrastructure, but also by providing financial relief to the Länder and local authorities, a measure that has already boosted investment considerably at the general-government level.

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