The Debt Turn: The Missteps of Fiscal Policy

Is economics a science? My late son, who had studied economics at the HSG in St. Gallen, would have answered in the affirmative, arguing that Adam Smith had established economics as a science with his book "The Wealth of Nations". Andreas had not only read this seminal work but had actually studied it.

The book

Prof. Lars Feld’s lecture on “The Debt Turn, Missteps in Fiscal Policy” last Monday at the Museumsgesellschaft nearly convinced me, although, as in physics, calculations of future developments in an economic system - i.e., predictions - are impossible, particularly given the current global and economic situation.

Furthermore, much of what used to be part of the Standard Model of economics no longer applies. In the past, when inflation in an economy became too high, central banks countered it with higher interest rates.

However, rising prices amid the current oil and gas shortage cannot be offset by homeopathic increases in interest rates from, say, the Fed or the ECB.

As a physicist, I sit on the sidelines and can only watch the prevailing chaos. I will limit myself to reproducing some of the impressive slides Prof. Feld presented in his lecture and commenting on the graphs.

The chart above shows the national debt of various countries as a percentage of their GDP. Japan stands out, but this is a special case that will not be examined here.

Of the remaining countries, Italy has the highest national debt at 150%. Switzerland has the lowest, with hardly any change observed in time. The debt ratios of all other countries have been rising over the years, with the United States starting from a relatively high level. Germany is doing rather well. China’s rapidly rising debt is striking. The effect of the coronavirus epidemic on national debt is clearly visible.

This chart shows the national debt of individual EU countries. Greece had the greatest difficulty meeting the EU’s financial criteria, but was expected to join as the cradle of Europe. The Greek government has made every effort, and as a result, Greece is one of the few countries that has reduced its debt in recent years.

It is striking that the new EU members have lower debt ratios than the founding members, Italy and France. Germany ranks in the middle.

The creditworthiness of individual countries is reflected in their debt levels. As a result, yields on Greek government bonds are particularly high, and U.S. Treasury bonds also stand out. Germany, as a safe-haven issuer in Europe, has the lowest yields. It is interesting to note that most European countries follow the German yield curve, albeit at a higher level. Well, it's all in euros. 

Debt must be serviced, and the higher a country’s debt, the greater the interest burden.

The United States stands out in this regard due to its high national debt, with 18% of its budget going to meet interest payments. In Germany, debt service has increased slightly in recent years due to new borrowing.

It will increase dramatically in the coming years if our government follows through with its financial planning. Given rising government spending and lower tax revenues due to Germany's economic stagnation, is there any other option?

 

The holy grail for escaping this predicament is economic growth. But the forecasts are bleak. As a layperson, Red Baron has always believed that with resources dwindling and thus becoming more expensive, there will be no more growth.

So the only easy way to balance lower revenues against higher expenditures is by increasing government debt.

But then the borrowed money should be used for investments, as these boost productivity, benefit the economy, and generate higher tax revenues. Yet public investment in Germany has been stagnating at a low level for years.

The hardest way to get government spending under control is through budget cuts. Every government struggles with this.

The chart shows, for simplicity’s sake, four main categories of spending: 

 - social programs (government subsidies for Germany's deficit-ridden insurance schemes such as pensions, healthcare, and long-term care) 

- defense (currently with no budget cap due to the war in Ukraine: “It takes what it takes”)

-  debt service (according to Prof. Feld, the amount will rise from 20 to 40 billion euros in the coming years). 

- others.

Budget consolidation for the coming years envisages cuts in "others", with the key words being "Abbau der Bürokratie" (cutting red tape).

As already mentioned, particular attention is being paid to the defense budget. While Europe felt secure under the United States' nuclear umbrella in recent decades and allowed military spending to decline, NATO countries are now rallying in the face of the Russian threat to meet the 5% defense spending target in the (distant ?) future. The Trump administration’s urgent and ultimatum-like warnings contributed significantly to this turnaround. 

Will the government-financed-on-credit spending on defense stimulate the German economy? Prof. Feld expressed his strong doubts.

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Out from the Shadows into the Light

Germans are humorless, according to a well-known stereotype. Well, humor is a tricky quality, but Red Baron is convinced that my compatriots are not without it.

On the other hand, Germans are notorious Nörgler (grumblers). They bitch and moan about everything, usually adding that everything used to be better in the past.

Yes, some things were better in the past, and will get worse in the future, when Chancellor Friedrich Merz declared in August that Germany's social welfare programs were unsustainable and needed an overhaul. "We simply can no longer afford the system we have today," he said in a speech, adding, "This will mean painful decisions. This will mean cuts."

A declining number of young people has to support a growing number of elderly people.

The Washington Post addressed the issue and titled an editorial "The decline of the welfare state has boosted the rise of the far right."

The fact that cuts to the social safety net will be necessary in the future is grist to the mill for those who know how to deal with it.

For the right (AfD), the problem is solved by deporting lazy foreigners who are a burden on the German social system.

And for the left (Die Linke), it's even simpler: Tax the rich.

These solutions appeal not only to right- or left-wing voters. They are, however, too simplistic.

But is it really so bad in old Germany?

At the turn of the year, Deutsche Telekom News' editorial team published a list comparing Germany's economic and political situation with those of other countries.

I have reorganized the list, added some graphics and personal comments, and I want to share the results with my readers.

The global crises are also affecting all people in this country, and do not suggest that world peace will arrive any time soon. Politically and economically, 2025 was unfortunately not a year that gave much cause for confidence and hope.

But humans would not be humans if they did not manage to strive for the light even in dark times. Because, viewed sine studio et ira, things are developing better in this country than the daily barrage of bad news would suggest.

Germany undoubtedly faces significant problems and must overcome many challenges simultaneously. However, there are only a few countries in the world that are better equipped to tackle those than the Federal Republic, as ten facts may show:

World ranking in 2024

1. Germany still has the largest gross domestic product in the EU, but, as the third-largest economy in the world, it cannot really compete with giants such as the US and China.

 

2. The standard of living is exceptionally high by global standards; Germany ranks in 7th place on the UN Human Development Index.


3. Life expectancy in Germany at 81.7 is also well above the global average of 73.5 years. Still, it is 4.1 years lower than the number one, Hong Kong, and 2.5 years lower than the European forerunner, Switzerland. Note that Red Baron is now at 90.5

4. Germany's unemployment rate is well below the EU average and one of the lowest in Europe, even among young people; the dual education system is considered a guarantee of success.

5. Because German companies invest heavily in research and development, their innovative strength is not only well above the EU average, but also above the European Commission's target.

    

6. Germany has been consolidating its position as a leading export nation for years; customers all over the world are clamoring for many German products. Still, my country looks poor compared with the ten times smaller Netherlands.

7. Despite huge debt packages that were recently voted in the Bundestag, public finances remain comparatively stable in my country. With a debt ratio of less than 65 percent, Germany is in a much better position than Japan (230 percent), Italy (137 percent), and the US (125 percent).

 

8. According to an OECD study, Germany is particularly attractive to highly qualified professionals.

9. The Federal Republic also ranks among the best internationally in terms of the rule of law, performing particularly well in categories such as "order and security" and "civil justice."

10. Despite all the doom and gloom and criticism from the US, freedom of expression and freedom of the press are well established in Germany. While Scandinavian countries and Switzerland have a GxR Score of freedom of expression and information above 90, Germany is on par with the US at 86. The UK, strangely, scores only 79.

Without sugarcoating the situation, these are good conditions for not necessarily increasing prosperity, but for maintaining it and ensuring a free, stable society in Germany.

Out of the shadows and into the light. That should be an apt headline for the political program, economic initiatives, and social impulses for the coming year. All it takes is enough people to get involved to overcome the current challenges.

My country fellows should not dwell on grievances and abuses, but clearly identify problems and seek solutions. Since these solutions are not easy, our government has referred the issues to mandated committees with clear deadlines.

Looking at all this, Germans must not forget their humor, which brings us back to the beginning of the blog.

Happy New Year, Everybody

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It’s All Exponential

Prof. Emanuel Deutschmann had made the long journey from Flensburg to Freiburg to present and sell his book "Die Exponential Gesellschaft, Vom Ende des Wachstums zur Stabilisierung der Welt" (The Exponential Society: From the End of Growth to the Stabilization of the World).

One of humanity's most significant weaknesses is its inability to understand exponential functions (Al Bartlett, 1976).

It is undoubtedly the most important function in mathematics (Walter Rudin, 1970).

Has its relevance in sociology been underestimated until now?

The lecture hall was well-filled. Prof. Deutschmann had divided his talk into three theses.

1. Today's society is characterized by exaggerated exponential trends that cause fundamental problems. 

2. These problems make stabilization a central issue of social order.

3. This constellation gives rise to new social conflicts.

In a double logarithmic scale, exponential functions are presented by a straight line.

Indeed, the economy and global production have grown exponentially with the industrial age. 

As early as 1848, Marx and Engels warned of "a continuous revolution in production, which will cause an uninterrupted upheaval of all social conditions."

 Here are some graphs:

The money supply in various countries is growing exponentially with a doubling time of 8.5 years.

The consumption of various building materials follows an exponential trend.

An exponential function represents a straight line in double logarithmic representation.

The number of scientific publications and the production of microprocessors increase exponentially over time, whereas AI grows even faster.

World tourism, the number of students studying abroad, and road traffic follow the trend.

Despite many international efforts to reduce greenhouse gas emissions, their levels continue to rise. Due to thawing permafrost, methane emissions have increased sharply in recent years.

Here is the verdict. Measured global warming and sea levels continue to rise exponentially.

An ever-rising global population is accelerating climate change.

All curves have a universal mechanism in common: More brings more, or growth is the basis for further growth in a positive feedback loop.

To stabilize the world economy, Justin Connolly "had a dream" of a donut-capped economic limit, i.e., a humanity living in a safe and just space with a regenerative and distributive economy.

In our world, two extreme attitudes clash: further expansion into space as Mother Earth's resources near exhaustion, with the opposing view that there is no planet B.

Prof. Deutschmann was clear: Ad astra expansionism a la Musk is a castle in the air, and metaverse expansionism a la Zuckerberg is a pipe dream.

The balance of power between the two extreme camps is uneven and one-sided.

The stagnant German economy must grow again, while the US breaks every record on GROWTH.

Since long, Red Baron has believed that the global economic pie has reached its maximum size and that growth is only possible when the pie is sliced differently, with one nation's gain being another nation's loss.

Whether a green economy will drive economic growth remains a subject of debate. The Camino Real is the decoupling of resource use from economic activity.

However, here is a caveat: the rebound effect known as the Jevons Paradox. Technological progress that enables more efficient use of a resource ultimately leads to increased use of that resource rather than to its reduction.

Here are Prof Deutschmann's conclusions:

The task: Crafting stabilizing utopias.

The goal: A good life for all within planetary boundaries, what Ernst Bloch called: "Optimism with a black ribbon."

Lagniappe: 

The other night, Red Baron attended the annual meeting of the Association Supporting the Freiburg Documentation Center on National Socialism. The president presented the growth in membership as a bar chart, with an exponential function superimposed. When will all Freiburg citizens be members?

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A Black Wednesday for the World Trade

Bye-bye Toblerone

Day of Liberation, so called it Trump. The European translation reads Day of Despotism.

Trump's tulips are watching their master's ceremony

The tariffs announced in the Rose Garden of the White House will restrict exports to the US and make imported goods more expensive. The logical consequence iś that consumer prices will increase in the United States.

Most economists predict the new tariffs will lead to more bankruptcies and rising unemployment figures in many countries. The tariffs could plunge the world into a dangerous trade war with only losers.

This view is not shared by Ms. Miller Wellington, who sells candies in Delta, a village of around 3000 people, less than 100 miles south of Detroit. She is unfazed by the possibility of price increases predicted by most economists. "Sometimes you have to walk through fire to get to the other side," she says, echoing the president's main argument: "If tariffs bring companies and business back to hard-working people like the ones who live here, then it's worth it."

The Washington Post writes," Wall Street worries Trump tariffs could wreck the souring economy." 

Let Stephen Colbert enlighten us: 

"And Trump's toadies are out there defending the tariffs. Here's Louisiana Senator John Kennedy on FOX Business arguing that ultimately nothing is knowable, 'The truth is that nobody knows. I've listened to economists for the last month. Some say this will cause a recession; his tariffs will cause a recession. Others say it will cause growth. In my eight years in Washington, I've learned that for every economist, there's an equal and opposite economist.'"

(Laughter from the audience) And Stephen continued, "Sounds crazy, but it is actually true. For example, Milton Friedman was always opposed by the equal and opposite economist Friedmil Manton."

"Most experts dispute the idea that these tariffs would lead to any growth at all. Instead, they say we could be looking at a prolonged recession, higher prices, and higher unemployment. Okay, a little more practice. Man, awww, damn, these grapes smell like wrath."

The Dow Jones Industrial Average plunged 2,200 points, and the S&P 500 tumbled 6% as Wall Street's worst crisis since the COVID crash deepened after China matched President Donald Trump's big tariff increase announced earlier this week. 

Still, leaving Washington to watch a golf tournament at Mar-a-Lago, the "stable genius" claimed in one of his chopper talks:

Like this?

To be continued ...

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Europe versus America

My loyal readers know that I have a soft spot for Sabine Hossenfelder. Her short physics-description videos on YouTube are legendary, and her books are inspiring.

  

This blog post is about a video in which Sabine highlights the differences between the New World and Old Europe, pointing out many well-known stereotypes.

The nastiness between Europeans and Americans is very old, and one of the oldest remarks about America comes from the French philosopher Voltaire. Commenting on the origins of America, Voltaire remarked, "It is said that God created the world and left America unfinished."

Somewhat later, one of the founding fathers, Thomas Jefferson, had only terrible news about European governments: "The comparison of our government with those of Europe is like a comparison of heaven and hell."

The Austrian psychologist Sigmund Freud found that "America is a mistake; a gigantic mistake, it is true, but nonetheless a mistake."

Benjamin Franklin had harsh words for the Europeans, "People in Europe talk of liberty and complain that they lack it. But they do not understand the real meaning of the word as we do in America."

To which George Bernard Shaw has a reply, "Democracy is a device that ensures we shall be governed no better than we deserve." 

Two generations before Lincoln's American government of the people, by the people, for the people, John Adams castigated the European heritage, "I am no friend to aristocracy, and I am sure it is incompatible with liberty. The Europe I have seen is ruled by a few, for the few."

When George Bernard Shaw states, "The 100% American is 99% idiot.", Mark Twain rightly castigates European arrogance, "The English are mentioned in the Bible: Blessed are the meek, for they shall inherit the earth."

Oscar Wilde, from the motherland England, about the wayward child, "America is the only country that went from barbarism to decadence without civilization in between."

Yes, English and Americans have a long love-hate relationship. At times, it goes below the belt when American stand-up comedian Jackie Mason pretends that "England is the only country in the world where the food is more dangerous than the sex."

With her multiple stays in the States, Sabine has lived in both worlds. The remarks forwarded in her video are "scientifically" biased. Here is her most relevant text passage:

Americans just have different values than Europeans. We each have a different idea of what makes for a good life, and it makes no sense that we try to impose our values on each other.

Many Americans, for example, think of freedom as individual autonomy, being left alone by the government, and being able to say what they want without limitations. This is why they are skeptical of the idea of making health insurance mandatory, don't think much of social welfare programs, and constantly complain about censorship.

They've grown up learning that if you want to be successful, you need to take risks. They've grown up learning that failure is a normal part of life and an opportunity to learn. They've grown up learning to value independence.

Europeans, on the other hand, are more likely to associate freedom with social security. They want to be free to pursue their interests without having to worry about being in debt for the rest of their lives because they want to study physics without having to ask for donations to pay for cancer treatment or get shot at the mall in Europe.

We tend to see universal healthcare, tuition-free education, and unemployment benefits as the basis of individual liberty. We accept higher taxes and regulations as protection from systemic risks like poverty and illness, and most of us agree that one person's free speech ends when it is dangerous for another person's safety or dignity. We've grown up learning that bad fortune can hit anyone. We've grown up learning that we're stronger together. We've grown up learning to think before acting. Yes, these are terrible stereotypes.

The French would say, "Vive la difference!" and Red Baron finds that's good, subscribing to Sabine's text, including the stereotypes, except for one statement. I did not learn to think before acting in high school in the early fifties. Instead, I had to endure painful experiences in my life, following the principle of learning by doing things wrong.

Although I have never lived in the United States for any length of time, I once had a job offer there shortly after joining CERN.

Together with my Norwegian boss, nearly the entire CERN Radiation Protection Group attended the 2nd International Conference on Accelerator Dosimetry and Experience at SLAC in 1969.

On our way back home, we flew through Chicago to visit Fermilab and its Tevatron accelerator, where the boss of the radiation protection group made me an offer. I remember impressing Miguel's secretary with my rudimentary English and my shit European accent, as the exotic guy from Overseas.

Miguel invited me to fly on his private plane and showed me the splendor of the Tevatron site from above. I can only describe the scene with Matthew 4:8-9, "All this you will serve," he said, "if you will accept my offer and allow me to be your boss."

As a young father still struggling to find my position at CERN and thinking of my European wife, I declined the offer. Here comes a slide Sabine showed during her talk:

Taking everything into account, I never regretted my decision.

Years later, an Italian colleague flew across the big pond and joined the Stanford Linear Accelerator Center (SLAC). Whenever he visited his home country, he would pass by and say hello to his old colleagues at CERN. He was worried that his SLAC pension wouldn't be enough to support him in his old age, since the pension fund had lost a lot of money in the stock market. He stated, "I must work beyond my retirement," a common situation among academic staff in the States.

As a side note, when I asked for such a "privilege" at CERN, personnel simply told me in German, "Mit 65 ist Schluss."

Coming back to the initial topic. In her talk, Sabine showed a graphic that saddened me:

Europeans' sympathy for Americans is declining rapidly. We Germans, in particular, are full of angst that the transatlantic alliance Europe has relied on for decades will break.

Is it comforting that we Europeans are not the only ones who do not understand why the Americans elected Donald Trump? An American columnist also asked, "What exactly did Americans elect Mr. Trump to do? "

She continued her queries, "Did people want him to remake the government and disrupt the global financial order, or did they just want cheaper groceries? "

When looking at the outcome of our recent federal elections and regarding the present political situation in the Netherlands following their elections, I would not throw stones while sitting in a glass house as a Dutch lady does:

Germany, during years hypnotized by its Schuldenbremse (debt brake), suddenly woke up with the disturbing image of the Ukrainian president humiliated in the White House. 

In an unprecedented show of strength, the future German government, composed of Christian Democrats and Social Democrats, is whipping through the Bundestag (Parliament) and Bundesrat (Senate) a one-trillion-euro credit for armaments and infrastructure improvements. This is only possible with a constitutional amendment requiring a 2/3 majority in both chambers. Yesterday, the Bundestag voted on the one-trillion debt with a majority of 513 to 207. The Bundesrat will agree to the amendment on Friday.

Can't Germany afford higher debt?

This oversized financial shot will hopefully help Germany emerge from its stagnating economy. Will it also help to avoid a world apportioned between the USA, Russia, and China, with us Europeans as mere onlookers?

**

Verlustangst

A guest article by Henning Vöpel, Director of the Center for European Politics (cep), in the Badische Zeitung, entitled "Angst vor der eigenen Courage (Fear of one's own courage)," inspired Red Baron to write the following blog post.

Red Baron has long argued that there will be no more real economic growth but only pseudo-growth, in which the large but unchanging pie of the global economy is merely redistributed.

These efforts can currently be observed in the United States, where the president is trying to make foreign imports more difficult by imposing tariffs. This should lead to jobs being brought home to manufacture the previously imported products in the US. Tariffs are intended to make the American economy great again at the expense of countries that rely on exports, such as China and Germany.

Therefore, the Germans' fear of losing their jobs is quite understandable when the automobile industry, once the poster child of Germany's export surplus, has already announced massive layoffs. For most, job loss will be followed by financial and social decline.

In this stressed ambiance, it is more noticeable than ever that the party platforms for next Sunday's general election make big promises. Fulfilling them will require huge amounts of taxpayers' money.

 The Ifo (Information and Research) Institute in Munich published a study, "Reform Proposals or Tax Giveaways? The 2025 Election Platforms Put to the Test"

Mit Anpassung (with adjustment) means that any "deficit" money spent will lead
to increased tax revenues, and thus, the overall deficit will be mitigated.
N.B.: The left's tax revenues are due to massive taxation of the high earners and the rich.

Calculations by Ifo show that the financial gaps for the upcoming budget could reach up to 200 billion euros, depending on the promises of the various parties. Economic growth of 10% is needed to cover 100 billion euros, but don't forget Red Baron's initial statement.

Every party talks about potential savings, but where are they? Substantial savings involve bold changes in many areas. However, the election platforms of all parties contain neither convincing concepts nor attractive visions, but mainly false promises. The established centrist parties are afraid to talk about necessary, painful financial cuts before the election for fear of losing votes to the AfD. This far-right opposition party* does not have to implement its full-bodied demands and promises.
*Keyword: Brandmauer (firewall).

Recently, the number of young voters on the left of the party spectrum has increased. They like to understand that future social unrest in large sections of the population can only be avoided through a massive redistribution from rich to poor.

Caressing the feeling that "everything used to be better," German minds are dominated by the Verlustangst (fear of loss). This sounds in Vöpel's original words, "The comfortable illusion of prosperity of recent years has already turned into an almost paranoid fear of loss. Every group feels disadvantaged. This is socially dangerous because politics is becoming a pure zero-sum game*. Defending the present (preserving vested interests) is becoming more important than conquering the future."
*Germany's economic growth in 2023 was -0.3%

And Völpel continues, "In general, people value the risk of losing their status quo more than the chance of gaining. Thus, innovation and start-up activities are lower in the Old World than in other regions of the world. Mentally, it feels like there is hardly anything to gain but much to lose."

The next German government must be straight with its citizens. Those who govern us cannot avoid new debts or make painful cuts to tax-funded services. Above all, they must interre their mantra that debt will later be reduced through economic and labor market growth.
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