EXPLAINED: Germany's new debt deal and what it means for residents

What's going on? 

Just a week and a half after Germany's fractious elections, the two parties vying to form the next government have made their first big policy announcement - and it's all about the economy.

In a press conference on Tuesday evening, CDU leader Friedrich Merz - who is likely to be Germany's next chancellor - set out plans to borrow hundreds of billions to boost defence spending and invest in infrastructure in the coming years.

Ahead of the election, Merz had repeatedly rejected calls to loosen up Germany's tough rules on borrowing. However, less than 24 hours after winning the vote, he admitted that additional debt was indeed on the table. 

The new financial packet was agreed in a lightning round of negotiations with the centre-left SPD, who look set to be the junior partner in a future coalition with the CDU and CSU.

Though a more wide-reaching reform of the debt brake is still to come, it could well mark the end of an era of stringent fiscal rules for Europe's largest economy.

With Germany threatened with a third straight year of recession, the move is seen as vital. Experts say the economy is being hobbled by its creaking infrastructure, which is desperately in need of an upgrade. 

READ ALSO: What is Germany's debt brake and how does it affect residents?

What have the parties agreed?

To get around Germany's debt brake, which caps new borrowing at just 0.35 percent of GDP, the SPD and Union want to make some changes to the rules. This includes a key carve-out for defence spending that will be added to the constitution, or Grundgesetz. 

When Germany spends more than one percent of GDP on its military capabilities, spending above this threshold could be exempted from the debt brake. This technically allows for unlimited borrowing. 

In addition, the Union and SPD want to introduce a "special fund" for infrastructure costing €500 billion over the next 10 years, which will also be excluded from the debt brake.

For the federal states, the rules will also be relaxed. Currently, regional governments are subject to even stricter rules than the federal government, with state parliaments effectively barred from taking on any debt at all. If the future coalition partners get their way, however, this rule could be amended to permit borrowing of up to 0.35 percent of GDP. 

READ ALSO: Merz vows billions to boost economy and defence

Can the Union and SPD actually change the rules? 

In order to make changes to Germany's constitution, parties require at least a two-thirds majority in the Bundestag. In the current parliament of 736, that means that a minimum of 490 MPs must vote for the new debt rules.

With the Union and SPD holding 403 seats together, they'll need to work with other parties in order to get their deal across the finish line. Most likely, they'll rely on the support of the Green Party, which currently holds 118 seats. That could also mean some concessions will need to be made, for example by including more investment in climate-friendly projects as part of the infrastructure spending. 

But that won't be the case in the new parliament, because the makeup changed in February's elections.

Passing the bill could be a race against time. The newly elected Bundestag MPs must take their seats by March 25th. When this happens, the far-right AfD and leftwing Die Linke party will hold more than a third of the seats, which would allow the two parties to block the new debt deal. 

The AfD is staunchly opposed to reforming the debt rules, while Die Linke are in favour of debt reform but are likely to oppose any special funding for the military. 

What will the extra money be used for?

The new borrowing is intended for two purposes: bringing Germany's military up to scratch, and modernising its crumbling infrastructure.

Chancellor Olaf Scholz (SPD) set aside an €100-billion special fund for the Bundeswehr back in 2022 after Russia launched its full-scale invasion of Ukraine - but this has all been spent or budgeted already.

To be ready for a potential war, experts say the German military still needs far more equipment and ammunition stocks, as well comprehensive air defence and cyber defence, long-range precision weapons, drones, improved reconnaissance capabilities and a homeland reserve.

These - as well as an expansion of military recruits - are likely to be prioritised in future defence spending.

The second major part of the finance packet relates to infrastructure: things like public transport networks, roads, ports, and high-speed internet, as well as housing, schools, and hospitals. Speaking at the press conference on Tuesday, CSU leader Markus Söder described the package as an "XXL" cash injection of unique proportions.

The €500 billion pot could be used to boost the country's energy supply, construction, childcare, and hospitals, as well as expanding digital services, Söder said. 

READ ALSO: Can Germany’s next leaders reach a deal on immigration, benefits and the economy?

Germany is threatened with a third straight year of recession, with experts partly blaming the country's creaking infrastructure for its economic struggles. 

The Federation of German Industries (BMI) has calculated that additional funds of around €160 billion will be needed within ten years for railways, roads, waterways, bridges and ports and the expansion of the public transport network.

The BDI also believes an extra €100 billion will be required for education infrastructure such as daycare centres, schools and universities, as well as €56 billion for housing and other buildings.

Who's going to pay for all of this? 

In the short term, the government will fund its plans by issuing new bonds to investors on the capital market. This will allow the state to take on billions in new debt.

As with other special funds like the €100 billion for the military, it will then set out a timeline for repayment - potentially in several years' time. After this point, the funds will be taken from the federal budget, meaning taxpayers will foot the bill.

As economists point out, however, money spent on the economy doesn't simply disappear into thin air. When money is spent on things like defence and infrastructure, it stimulates the economy and boosts economic output, meaning the government also makes more money through taxation and growth. 

What's the reaction been so far?

The fact that the Union and SPD were able to come to a deal so quickly isn't the only thing suprising commentators: it's the fact that deal appears to sweep away years of economic consensus in one go.

Speaking on politics podcast Table Today, Moritz Schularick, the president of the Kiel Institute for World Economy, described the plans as "the end of the debt brake as we know it".

However, Schularick said he saw the plans positively, describing the new defence carve-out as "an extremely important step for the security of Germany and Europe." 

Campaign groups that have been pushing for greater investment and infrastructure also responded positively to the news. 

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"A long-term package could finally free the construction of an ecological and future-proof infrastructure from the annual budget squabbles," said Greenpeace transport expert Lena Donat. Meanwhile, rail passenger advocacy group Pro Bahn said the fund would help tackle the huge backlog of railway renovations.

Not everyone has been thrilled by the extra borrowing, however. Speaking to DPA on Tuesday, FDP leader Christian Dürr accused the Union of breaking a central election promise.

"Debt for all sorts of things at the expense of the people of Germany is irresponsible in my view," he seethed. 

The Greens, too, have been furious at the news of Merz's sudden turnaround, but say they will "calmly" assess the plans to see if they can support them. 

"A long-term solution to the fundamental rules of the debt brake is important to us," said Greens parliamentary co-leader Britta Haßelmann. "And that, in addition to the issue of security, investments in infrastructure, the economy and the climate are also tackled in a sustainable manner."