German coalition agrees reform package aimed at reviving economy

BERLIN: Germany’s ruling coalition has agreed on a broad package of tax, labour and pension changes, with Chancellor Friedrich Merz saying the measures are intended to support the country’s struggling economy and respond to mounting political pressure.

Merz announced the agreement on Thursday after lengthy talks between his centre-right CDU/CSU bloc and their coalition partners, the centre-left SPD. Speaking at a press conference in Berlin, he said the government was seeking to make businesses more flexible, reduce bureaucracy, protect the welfare system and lower the tax burden on workers and companies.

"We are working to increase the flexibility of our businesses”, Merz said, adding "We are working to cut red tape. We are working to protect our welfare state, and we are working to ease the burden on employees and companies by lowering taxes”.

He said he had promised a “great leap forward” for German growth.

Tax, pension and labour changes

The package includes income tax reductions worth 10 billion euros, or about $11.4 billion, to be funded by higher taxes on people earning more than 250,000 euros annually. The coalition said the tax relief would leave an average family roughly 600 euros better off each year.

Finance Minister and Vice Chancellor Lars Klingbeil of the SPD said those with the highest incomes would shoulder more of the burden.

“The highest earners in this country will take on a larger share” of the tax burden”, Klingbeil said.

Under the agreement, the pension system will also be changed so that the retirement age eventually rises beyond 67. On the labour front, the coalition agreed to ease corporate reporting requirements that companies consider onerous, abolish the right of employees to obtain a sick note by telephone in a move intended to reduce absenteeism, and allow temporary employment contracts to run for as long as four years.

Business groups welcomed the proposals, while the IG Metall trade union said the labour measures amounted to an attack on workers’ rights.

Government under pressure

The coalition, which has been in office since May last year in Europe’s largest economy, had spent months trying to settle several difficult policy disputes. The government is also trying to show it can deal with Germany’s economic problems and blunt the appeal of the far-right Alternative for Germany, or AfD, which has led national opinion polls for months.

Regional elections are due in September in eastern German states that were formerly part of communist East Germany. Those contests could result in the first AfD-led state government in post-war Germany, a development that would further underline Merz’s weak approval ratings.

Merz acknowledged the pressure facing his administration and said the government was trying to address long-standing barriers to economic growth.

"We are doing everything we can to overcome our country’s structural weakness when it comes to economic growth," he said, while adding that "we are under pressure from many sides".

Germany’s export-driven industrial model, long central to its economic strength, has come under strain from higher energy and labour costs. Pressure has increased further because of stronger competition from China and US President Donald Trump’s erratic tariff measures.

Mixed response from economists

In a measure seen as directed at China, the coalition said Berlin would push at the European Union level for stronger steps against unfair competition and tighter rules on foreign investment in strategic sectors and critical infrastructure.

Economists offered differing views on the package. Marion Muehlberger, a senior economist at Deutsche Bank, said the announcement marked one of Germany’s biggest reform efforts in decades and showed the government could agree on major structural changes. She said the package should improve sentiment and fit with Deutsche Bank’s forecast that growth would strengthen in the second half of the year.

Holger Schmieding of Berenberg said that while none of the reforms on its own would be groundbreaking, the broader deal, together with a major pension reform proposal the government had already endorsed 10 days earlier, could make a meaningful difference. He said Germany could again become a more attractive place for investment and job creation if the measures were implemented.

Marcel Fratzscher, president of the DIW Institute, gave a more sceptical assessment, telling the Rheinische Post daily that the reforms were not a major achievement but rather a symbolic package.