About half of the German gross domestic product is spent via public budgets such as the federal budget, the federal states’ budgets, the municipalities’ budgets or the social securities’ budgets.

While the federal state ran deficits for decades, it has recently generated a government budget surplus. Low interest rates and increasing revenues from taxes and social security contributions have helped the public authorities to avoid a government budget deficit. Nonetheless, government debt continues to amount to more than 2 trillion Euros, leading Germany – like many other member states – to violate the Maastricht convergence criteria that underpin the European Monetary Union.

Besides this evident debt, the social system contains a number of implicit liabilities such as pension-warranties. Germany spends about a third of its economic output on social benefits, more than most other industrialised countries. Demographic change will put the system of benefits under even greater stress.

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The purpose of unemployment insurance is to ensure, by replacing part of their missing income, that those who lose their jobs do not suffer materially.

As a rule, the unemployed receive 60% of their most recent net wage – or even 67% if they have children - for a period of 12 months. These benefits are mainly financed by income-related contributions paid in equal shares by the insured and their employer. The rise in unemployment duringa recession effectively doubles the burden on the unemployment insurance system, which has to pay out more even as its revenues fall. This sets in motion a fateful mechanism whereby rising contribution rates make labour more expensive, thus creating more unemployment, which leads in turn to a further rise in contribution rates. If this upward spiral is to be interrupted, contributions must not be allowed to rise too steeply during the downturn, something which can only be avoided if the government does not overload the unemployment insurance system with additional tasks.

Active labour market policies include measures which raise the expenditures of the unemployment insurance system to questionable effect. Publicly subsidised employment, for example, displaces regular employment, whilst rarely easing participants into proper jobs. Extending the entitlement period for older claimants is expensive for contributors. At the same time, it does nothing to help the recipients, who are given an incentive to absent themselves from employment for even longer. During this time, their know-how becomes out of date, making it more difficult for them eventually to find a new job.

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Germany spends more than a tenth of its economic product on its health sector, most of it going to the statutory health insurance funds.

In recent decades, the funds’ have only been able to keep revenues in line with rising expenditures by steadily raising their members’ contribution rates. The ageing of the population and medical progress will continue to drive up future health expenditures. However, the reasons for exploding costs are partly embedded in the system itself. The insured have nothing to lose by taking advantage of costly therapies and medicines because doing so has no direct influence on their contribution rate. If being more cost-conscious had an effect on patients’ pockets they would have a great interest in choosing the cheapest provider for the same service.

For this reason, it should be possible to vary the level of insurance contributions to reflect the choice of provider. In addition, the current income-related contributions for statutory health insurance should be replaced by a realistic insurance premium. Insurance cover for those with low incomes could be secured by means of a tax-financed subsidy.

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Germany’s statutory long-term care insurance currently covers some 70m Germans against at least part of the financial risk of requiring long-term nursing. Members of the compulsory insurance scheme who become dependent on long-term care receive cash benefits based on the degree of nursing required.

The scheme is financed on a pay-as-you-go basis, which means that current contribution revenues are immediately used for current benefit expenditures. The consequence is that, with a shrinking and ageing population, the system faces looming financial difficulties. The number of those needing care is expected to have approximately doubled by 2050, leading to a drastic increase in the number of nurses and nursing home places required. If policymakers fail to take corrective action, by mid-century the contribution rates will have to be raised to 5% of gross pay.

However, instead of securing the long-term care insurance against demographic change, the government has saddled it with new benefit entitlements. The long-term care reform of 2008 led to a rise particularly in benefits for home nursing. One way out of the dilemma presented by the prospect of soaring contribution rates for later generations would be to change the method of financing to a funded system. This would oblige people to make provision for their own nursing care.

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The pharmaceutical industry makes a considerable contribution to medical progress and thus also to the enhancement of life expectancy and the quality of life. However, the public debate in Germany is dominated by the high expenditures which this same medical progress imposes on the health system.

The pharmaceutical sector is one of the most dynamic branches of manufacturing industry and it continues to grow largely independently of the economic cycle. Due to the importance of research for their business, the pharmaceutical companies are reliant on a highly-qualified workforce, to whom they offer in return attractive career opportunities. In view of the ageing populations of the industrialised countries, the expanding population of the world as a whole and the global rise in incomes, the pharmaceutical sector can be expected to enjoy good growth prospects for the foreseeable future.

Whilst the opening of markets offers German companies new sales opportunities, it also makes the competition over the location of production and research facilities fiercer. Firms based in Germany are being challenged by competitors who in many cases enjoy better conditions for their research and manufacturing in other countries. As a result, the government faces the challenging task of making investment, innovation and recruitment in Germany more attractive for pharmaceutical companies, and at the same time providing the population with the best possible medical care.

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In recent decades the state has taken on more and more responsibilities. Since tax revenues have been insufficient to finance these new tasks and politicians have been reluctant to raise taxes, Germany has taken on new debt.

Now the federal, state and local governments are some € 2 trillion – more than 80% of the country’s annual economic output – in the red. Servicing this debt already swallows up every eighth tax euro, thus limiting the scope for public investment. The visible public debt is actually low compared with the hidden liabilities lurking in the social insurance systems. As a result of Germany’s ageing population, spending on pensions, health care and geriatric nursing is set to soar.

In fact, there are rules designed to stop this mountain of debt growing. The constitutiostipulates that new borrowing must not exceed the level of public investment. And the European Union requires the annual net increase in debt to be below 3% of gross domestic product (GDP). Neither of these provisions has done much good. Recently, therefore, the constitution has been changed to include a so-called 'debt brake', which provides that the federal government must reduce its structural deficit, i.e. that proportion of new borrowing which does not fall even in an economic upswing, to 0.35% of the nation’s economic output. The state governments will in future be forbidden any structural deficit at all, although they have until 2020 to balance their budgets.


To meet these constitutional requirements, governments at all levels must make an immediate start on consolidating public finances. As the population can hardly be expected to accept higher taxes and levies, savings must be achieved through cuts in subsidies, social insurance or public administration. As other countries have shown, in many fields the same results can be achieved with less money.

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The state receives around three quarters of its tax revenues from four types of tax: income, value-added, energy and trading taxes. Common to most other levies, such as dog, hunting and inheritance taxes, is that the amount of revenue generated bears no relation to the administrative expense.

In total, the German tax authorities collect some 20% of the nation’s economic product, or more than 55 bn euros in taxes from Germany’s citizens and corporations. If contributions to social insurance schemes are included, the tax burden runs to almost 40% of GDP. The main purpose of taxes is to generate revenues to pay for public goods and other tasks performed by the state. Increasingly, taxes are also expected to influence the behaviour of the population. The ecology tax is supposed to save energy, the possibility of deducting workmen’s bills from income tax is intended to promote the trades and crafts.

Last but not least, taxes serve the purpose of redistribution. Income tax burdens those with high earnings more than low earners, not only in absolute amounts but also in percentage terms. Since the state needs ever more revenues, however, the higher rates have now begun to apply to medium incomes. Hence, if performance is to be better rewarded, people must be able to keep more of their pay. Lower tax rates benefit the state, too, since when the economy becomes stronger, tax revenues increase as well.

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Germany’s pharmaceutical and medical technology industry contributes to medical care both in the domestic health care market and in many other countries.

The pharmaceutical and medical technology industry is one of the fastest growing sectors in the German economy. Creating value added and high-skilled jobs at home, medicines and medical devices "made in Germany" are also in demand worldwide. Whereas the average export quota for German manufacturing as a whole is just under half, the German pharmaceutical and medical manufacturing industry generates around two-thirds of its turnover abroad.

In recent years, the pharmaceutical and medical technology industry has focused particularly on such fast-growing emerging economies as China, India and Brazil. Companies in the sector are hoping for strong sales growth there because widespread spending cuts have curtailed the sales opportunities in European markets. However, despite the current economic and political risks, with increasing prosperity in emerging and developing nations and life expectancy growing in the industrialized countries, the prospects for the German pharmaceutical and medical technology industry are good.

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Rising life expectancy and a low birth-rate are disturbing the balance of the German state pension system, which is financed on a pay-as-you-go basis. Since 1993, the number of pensioners in the system has increased by 5 m to over 20 m and is set to grow even faster when the baby-boomers born in the fifties and sixties reach retirement age.

The current ratio is 100 workers paying contributions for every 60 pensioners. By 2030 the ratio is expected to be 1:1. This means that either pension increases must be severely restricted or contribution rates must be raised. Since employers pay half of their employees’ statutory pension contributions, this would raise non-wage labour costs and thus limit the employment prospects of younger generations. If policymakers want to prevent this, there is no alternative but to lower pension levels.

Indeed, this course has already been set. The so-called sustainability factor in the formula by which pensions are calculated limits the rise in pensions when the ratio of contributors to recipients worsens. The Riester factor, named after a former minister of labour, reduces the growth in pensions in return for state subsidies to private pension schemes. The latest reform, raising the retirement age to 67, is the result of the realisation that the extra years gained by the rise in life expectancy cannot be spent exclusively in retirement. Instead, working life must be extended. To avoid increasing the burden on future generations, retirement incomes will increasingly have to be provided by company and private pension schemes.

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