How to finance large government investments
Europe is rearming and spending trillions over the coming decade to do so. Germany alone is not only spending €500bn on rearmament over the coming decade but also another €500bn on renewing its infrastructure. To put it bluntly, Germany is spending 25% of its GDP on defence and infrastructure in the next decade. And most of that is financed through debt. So, what is the impact on Germany’s GDP growth from these investments?
I have done the math just like other people have. My models come to roughly the same conclusion as the German Council of Economic Experts. The investments in infrastructure and defence should boost Germany’s GDP by about 6.5 percentage points in the next seven years, or almost one percentage point of additional GDP growth per year. This is why I think Germany may well show the largest GDP growth of any G7 country over the coming decade.
Growth boost from German fiscal stimulus
Source: German Council of Economic Experts
But most of this growth will be funded by new debt, and the psychology of debt-funded stimulus is clearly different from the psychology of fiscal stimulus funded by other means (e.g. higher taxes). This is why I find a study among 9,000 households in five Eurozone countries by Jing Cynthia Wu and her colleagues so fascinating.
They asked these households how they think fiscal spending funded by debt or by higher taxes influences growth and their household spending. If households expect fiscal stimulus to create more growth, it will lead to more household spending since fears of losing their jobs decline. These animal spirits then compound the growth impact of fiscal spending.
Household expectations for GDP growth from fiscal stimulus
Source: Wu et al. (2026). Note: Blue diamonds indicate debt-funded fiscal stimulus, orange diamonds indicate tax-funded fiscal stimulus.
The results are clear. Households think that growth accelerates more if fiscal spending is fuelled by new debt rather than higher taxes, both in the short term (next year) as well as in the long term (next five years). However, the higher the debt burden of a country, the less additional growth is expected for debt-funded fiscal stimulus.
The diamonds in the two charts above represent, from left to right, the Netherlands (debt-to-GDP: 56%), Germany (67%), France (103%), Spain (107%), and Italy (138%). People in Spain, France and Italy understand that their debt situation is critical and that any debt-fuelled spending will eventually come back and haunt them in the form of higher taxes. German and Dutch households, meanwhile, are less concerned about debt-fuelled fiscal spending. They know it creates growth, and their country can afford the extra debt.
This tells us not only that Germany can afford its massive debt-fuelled fiscal splurge, but that it will likely create a lot of positive knock-on effects from increased household optimism. Extra debt-fuelled fiscal spending in the UK, with its debt-to-GDP ratio similar to France, is much less likely to awaken animal spirits.