EU governments are facing a double whammy of higher debt servicing and borrowing costs as a result of Germany’s decision to boost infrastructure and defence spending. Germany’s outgoing parliament ratified a new law earlier in March, which will exempt spending on defence and security from the country’s strict debt rules, as well as creating a €500billion (£420bn) infrastructure fund.
The move, though, has shaken financial markets in the European Union, and has caused bond yields to rise. Ten-year Bund yields have risen to close to 3% in March for the first time since a global bond sell-off in 2023. That has pushed other government borrowing costs higher, thanks to German debt’s role as the de facto benchmark for the bloc’s market.
Experts are warning this will impact the ability of other EU countries to raise funds for their own defence spending.
Sören Radde, head of European economic research at hedge fund Point72, told the Financial Times: “The rise in yields could eclipse fiscal space for an increase in defence spending outside of Germany.”
France and Italy are already feeling the effects of Germany’s radical change in spending policy.
French 10-year yields rose above 3.6% this month, their highest in more than a decade and exceeding levels reached at the height of its political crisis last year.
Meanwhile, Italy’s yields touched 4% for the first time since last July.
Germany’s spending plans were passed by both the lower and upper chambers of Germany’s outgoing parliament in March.
The decision to rush through the vote before the dissolution of the old parliament was made due to fears that far-right and far-left lawmakers would obstruct the move in the new Bundestag.
Both the Alternative for Germany (AfD) and The Left (Die Linken) parties made substantial gains in the snap elections in February.
The historic change to Germany’s debt rules was justified on the grounds that Europe could no longer rely on US military support.
He warned that Donald Trump’s administration was largely “indifferent” to the fate of Europe, and that Germany must act quickly to bolster its defence capabilities.
“My absolute priority will be to strengthen Europe as quickly as possible so that, step by step, we can really achieve independence from the USA,” Friedrich Merz, who won the most vote at the snap election last month, said.
