Volume 7, Issue 3, 19.03.2010

Given the consolidation needs and the provisions of the new fiscal rule, budgetary planning in Germany has become more demanding. Fiscal projections are already difficult since the link between total tax revenue and economic activity is observed to be unstable.

This Country Focus identifies three key drivers behind total tax revenue developments: (1) the composition of the GDP growth - if economic growth is driven by less "tax-rich" components, such as exports, the revenue-to-GDP ratio tends to decline, (2) frequent and often complex discretionary policy interventions and (3) other factors such as fiscal drag effects or changes in the behaviour of tax subjects.

The new fiscal rule could help give budgetary policy a longer-term orientation, as it necessitates a clearer and stable fiscal strategy. Given non-negligible residual effects in the past and the risk that unexpected developments might lead to high consolidation requirements in the short-term, the new rule requires greater fiscal prudence ex ante.