May 9, 2018 / 1:30 PM / in 6 months

Germany's Scholz eyes lower taxes, digitalization investment

BERLIN (Reuters) - Germany will use higher-than-expected tax revenues to boost investment in digitalization this year and lower the tax burden for workers on small and medium incomes next year, Finance Minister Olaf Scholz said on Wednesday.

Presenting updated tax estimates for federal, regional and municipal authorities, Scholz said the room for further spending hikes was limited and that the federal government would have 10.8 billion euros available for additional measures until 2022.

“I want to say that we have to continue to calculate cautiously,” Scholz said, pointing to downside risks for the budget such as the trade dispute with the United States and differing views about how to curb Iran’s nuclear program.

Scholz said the government would use the extra tax revenues to kick-start the creation of a digitalization fund into which the finance ministry will transfer 2.4 billion euros this year.

The fund will later be increased by revenues generated through the auction of G5 mobile licenses, Scholz added.

From 2019, Scholz wants to lower income taxes for workers on small and medium incomes by countering the ‘cold progression effect’ in Germany’s tax system. This means tax brackets are not adjusted for inflation.

Unlike in many other major economies such as the United States, Britain and France, thresholds in Germany’s progressive tax system are not automatically adjusted. The OECD has urged Germany and others to introduce index-linked tax brackets.

SPENDING SQUEEZE

Scholz said that any further fiscal room in the future would be used to finance the projects agreed in the coalition deal, such as increasing defense spending and development aid.

Last week Scholz presented spending plans that envisage public investment falling from 2020 and advised ministries seeking more funds to live within their means.[L8N1SG6QU]

Germany’s defense and development ministries have already objected to Scholz’s budget plans, saying they violate the coalition pact between Chancellor Angela Merkel’s conservatives and their junior partner, the Social Democrats (SPD).

Defence Minister Ursula von der Leyen and Development Minister Gerd Mueller - both conservatives - have met Merkel to demand more funds for their ministries.

They said the budget plans submitted by Scholz flouted pledges to ensure that Germany’s development aid and defense spending as a percentage of economic output did not shrink in the coming years.

The lack of a more pronounced increase in military spending has drawn the ire of U.S. officials, who have been pressing Germany to move more rapidly toward a NATO target of spending 2 percent of economic output on defense.

Germany has had a “debt brake” law in place since 2011 that forces the federal and state governments to virtually eliminate any budget deficits by 2020. This means any spending must be financed by additional tax revenues or cuts in other areas.

The German economy has been enjoying an unusually prolonged upswing since 2010 and the federal government has kept a balanced budget since 2014.

Reporting by Michael Nienaber; Editing by Madeline Chambers and Gareth Jones

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