Germany's economy stands at the crossroads of military necessity and inflationary pressure as of February 2025. A recent analysis has emphasized the urgent need for the country and Europe to increase defense spending by taking on debt rather than adhering to strict fiscal rules, like the 'debt brake' policy. The Kiel Institute for the World Economy has issued findings proposing borrowing as the primary method to finance rising military costs, stressing historical precedents where cuts to other sectors rarely supported military buildups.
Christoph Trebesch, Director of the Research Center International Finance at the Kiel Institute, draws parallels between current economic conditions and historical events. "Both economic theory and our empirical results suggest Germany and Europe should rely primarily on debt financing in the short term to increase defense spending quickly," says Trebesch, underscoring the need for swift action to deter potential aggressions from Russia.
Over the past 150 years, countries facing military threats have mainly financed their defenses through borrowing, often combined with future tax increases rather than cutting expenditures on social services. Trebesch warns against repeating the mistakes of the British economy during the 1930s, which prioritized balanced budgets and thereupon fell inadequately prepared for World War II due to neglecting military modernization.
“Germany and Europe should avoid the serious mistake of Britain’s 'fiscal first' policy and act swiftly and decisively,” Trebesch insists, emphasizing the significant risks of remaining unprepared. A major conflict within Europe, he argues, would far exceed the costs of proactive military investments.
The analysis also suggests exempting defense expenditures from current fiscal constraints. A specific German fund or European financing mechanism could facilitate necessary spending without political roadblocks. This recommendation is rooted not just in urgency but also economic theory, which indicates such investments could stimulate growth and innovation, eventually leading to increased tax revenues.
On the inflationary front, February figures from the ifo Institute indicate persistent price pressures across various sectors of the German economy. Despite the overall weak economic development, inflation remains above the European Central Bank's target. Timo Wollmershäuser, Head of Economic Research at ifo, reported, "Despite the weak economic development, inflation in Germany is still above the European Central Bank’s target value for the time being," signaling challenges for consumers and policymakers alike.
Price expectations from businesses reflect mixed sentiments. While service providers exhibit reluctance to raise prices, manufacturers and retailers anticipate increased pricing potential. For example, the manufacturing sector saw expectations rise to 11.0 points from 6.9 points the previous month, highlighting greater confidence among consumer goods manufacturers, particularly those dealing with food and beverages.
Wollmershäuser notes the sectoral disparities, pointing out, “There are fewer companies in the business-related sectors...that want to raise their prices.” Meanwhile, retail prices also surged, with expectations increasing to 33.2 points, primarily driven by the food sector. The construction industry, conversely, anticipates minimal price increases, indicative of varying dynamics across industries.
To contextualize these numbers, the ifo price expectations index indicates the percentage of companies intending to raise prices—balanced against those planning reductions. The fluctuation within service-related sectors reveals hesitations tied to economic conditions, which could stifle broader growth if unchecked.
The overall economic climate reflects the delicate balance between military imperatives and inflationary trends—two factors demanding urgent consideration from German policymakers. Observers note the pressing need for concerted action to navigate these challenges effectively.
Concluding, the current analysis reveals Germany's pressing economic conditions as it grapples with the dual challenge of military readiness and inflation management. Drawing lessons from history, policymakers are urged to prioritize effective military financing without compromising the overall economic health. The interdependence of military spending and inflation dynamics suggests strategic planning is necessary to avert repeating the historical failures observed during times of geopolitical unrest.