Municipalities Facing Worst Financial Crisis Since German Reunification
ResearchZEW Analysis Shows: Sharp Rise in Social Expenditure Jeopardises Local Authorities’ Investment Activity and Room for Manoeuvre
German local authorities are facing their most severe financial crisis since Germany's reunification. In 2025, the budget deficit of municipalities and municipality associations reached a new high of 29.4 billion euros. The chief cause is a sharp rise in expenditure, particularly on social benefits, which are often mandated by the federal and state governments. Local authorities are increasingly financing their deficits by taking on new debt and drawing down their reserves. These are the findings of a new study by ZEW Mannheim.
“A municipal financial crisis is not the typical effect of a weak economy. The fundamental problem lies in the steep rise in expenditure on social benefits over which local authorities have little control. Many of these benefits are mandated by federal or state law, and as the federal and state governments have their own financial problems, they are unable to adequately offset the additional financial burdens. As a result, local authorities are increasingly losing their financial autonomy,” explains Professor Friedrich Heinemann, head of ZEW’s Research Unit “Corporation Taxation and Public Finance”.
Municipal investment increasingly at risk
Between 2022 and 2024, local authorities’ adjusted expenditure rose by a total of 61 billion euros (around 20%), while revenue increased by only 32 billion euros (around 10%). Expenditure grew particularly sharply in the social and youth sectors, rising rose by 29 billion euros, which is 14.5 billion euros above the long-term growth trend.
Expenditure on social assistance under SGB (German Social Code) XII and integration assistance alone rose by 10.9 billion euros. Of this increase, an amount of eight billion euros is attributable to a departure from the trend after 2022. The main factors here are integration assistance for people with disabilities, and child and youth welfare benefits. This trend cannot be explained solely by higher prices, as between 2022 and 2025, price-adjusted expenditure on integration assistance per beneficiary rose by only 14.2%.
Because of rising mandatory expenditure, local authorities have less leeway to make their own decisions. By 2024, mandatory expenditure was already accounting for 51.8% of their revenue. At the same time, the surplus in the current budget plummeted from 30.1 billion euros to 7.9 billion euros between 2022 and 2024. In 2025, investment loans rose by 15.1 billion euros and short-term lending by 7.1 billion euros.
This development also jeopardises the effectiveness of the Special Fund for Infrastructure and Climate Neutrality: Additional federal funds might be used to offset existing financing bottlenecks rather than to stimulate new investment. This would mean that current expenditure would be financed from the Special Fund, even though this fund is intended for additional investment.
“Without a cap on the rise in expenditure, the financial situation of local authorities is unlikely to stabilise. In the long term, this jeopardises municipal investment and local voluntary services and thus also Germany’s growth potential,” adds Paul Steger, researcher at the ZEW Research Unit “Corporate Taxation and Public Finance”.
Revenue, expenditure and fiscal balances since 1992
The researchers analyse municipal finances on the basis of the final accounts and quarterly cash flow figures from the Federal Statistical Office of Germany. The study focuses on the development of revenue, expenditure and fiscal balances since 1992 and on changes in individual budget items since 2022. The actual development between 2022 and 2024 is compared with the long-term growth trend in the years 2012 to 2022 to identify exceptional increases in expenditure.
