REPORT OF THE AGENT GENERAL
FOR REPARATION PAYMENTS
BERLIN, June 10, 1927

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[IVb] 4. Observations on the Budget of the Reich.

The foregoing pages have reviewed the budgets of the Reich, for the four financial years since stabilization, and in that connection have attempted to give a detailed analysis of both the revenues and the expenditures of the Reich. It remains to present a number of general observations that are suggested by these comparative studies and to give special emphasis to some tendencies that appear to carry dangers for the future.

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(a) General observations.

The point that stands out most clearly in the budgets of the Reich is the constantly mounting level of expenditure. The problem of checking the rising tide of Government expenditures has, in fact, become acute, and it requires the closest attention, not merely from the standpoint of the Experts' Plan but in the interests of the German economy as a whole. At the same time, it is clear that the essential stability of the German budget remains unimpaired, and that the problems presented by the budget should yield readily enough to a steady application of sound principles of budget-making.

If the German Government will take the normal precautions that are necessary in its own interest to safeguard the budget, there is no reason to believe, from the developments thus far, that it will find real difficulty in maintaining the necessary balance between its revenues and expenditures, including, of course, the payments under the Experts' Plan. This will without doubt require greater resistance to new expenditures than has been in evidence during the past few years. But the budget statements themselves show that there are many opportunities for savings and these, it must be assumed, the German Government will use to the best advantage, in the interests of the German economy itself. It might be obliged, if it were to permit some recent tendencies to develop unchecked, to find new sources of taxation to cover the resulting expenditures., but so long as the stability of the budget is maintained, and external charges met, this would raise primarily an internal question of the distribution of wealth, based on the choice between more Government expenditures on the one hand and less taxation on the other.

The problem of the German budget, reduced to its simplest terms, is the old problem of keeping expenditures within the limits of income. The only way this can be done, unless the Government desires to levy increased taxation, is to reduce the volume of expenditures. Manifestly, nothing is accomplished in the long run by dividing the budget into different categories and classifying some expenditures as ordinary and some as extraordinary. These classifications introduce confusion into the budget and lead inevitably to budget instability. The proper approach to the problem is through a thorough re-examination of expenditures and exclusion of all items which are not regarded as necessary.

Coming specifically to the year 1927-28, it is naturally impossible to hazard any figures now when the year is still less than three months old and not much more than the budget estimates are available. The best judgment that can be drawn at this time indicates, however, that the estimates themselves provide a substantial margin of safety, and that if business conditions continue reasonably favorable there should be important savings in the actual expenditure both for unemployment relief and for investments, loans, etc. There are undoubted opportunities for economies in other directions. At the same time, as the Finance Minister of the Reich has recently pointed out, the Treasury of the Reich has substantial reserves in its holdings of preference shares of the Railway Company, its short-term loans to the Railway Company, and other loans and credits to industry and agriculture. These investments and loans have all been financed in one way or another out of former budgets and some of them, no doubt, could be used to relieve the cash position if the need for additional funds should develop.

The analysis of the revenue side of the budget of the Reich has shown that the revenues are maintaining themselves at a good level and are expected to show a substantial increase in the financial year 1927-28, as compared with the returns of the previous year. This showing, it must be remembered, comes after the considerable number of tax reductions that have been made in the past few years. These tax reductions have cut 1,000 million reichsmarks from the yield of the turnover tax alone, have abolished other taxes completely, and have made numerous reductions in the taxes on income and in other directions. The total yield of the revenues notwithstanding these changes has steadily increased during the past two years, and has in every way justified the expectations of the Experts.

It is not any lack of revenues but the constantly rising level of expenditures that threatens future budgetary troubles, and it is important from every standpoint that it should be checked in time.

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(b) Financial relations with the States and communes.

The payments to the States and communes, which have been absorbing yearly over one-third of the total revenues of the Reich, have been discussed earlier in this chapter in the detailed analysis of the budget expenditures. In this connection a summary has been given of the new law of April 9, 1927, which makes a further provisional settlement between the Reich and the States and communes for the financial years 1927-28 and 1928-29. This law postpones a definitive financial settlement for a further period of two years and, quite irrespective of any figures involved, raises questions of principle which go to the roots of the German budget problem.

Without doubt, the financial relations between the Reich and the States and communes are much complicated by their historical and political background. From the financial point of view, however, the settlement reduces itself to a question of the allocation of revenue as between the Reich on the one hand and the States and communes on the other. It is not inappropriate, therefore, to consider the question from a financial standpoint, particularly because of its close relation to the operation of the Experts' Plan.

Under the new law the States continue to draw from the Reich 75 per cent of the income and corporation taxes and 30 per cent of the turnover tax, and, in addition, the Reich guarantees to the States that their shares in these three taxes taken together, will amount at the minimum to 2,600 million reichsmarks. Moreover, they receive, as before, large percentages of several minor taxes, and other special payments. Previous Reports have pointed out again and again the fundamental objections of principle to a continuance of the financial settlement on this basis. These objections may be summarized as follows:

First, the Reich under this system divests itself automatically of a large share of its principal taxes. The income tax, the corporation tax, and the turnover tax are three of its largest sources of revenue. They are the taxes that respond most closely to the development of the German economy as a whole and that should be most available to meet the obligations of the Reich. The Reich may be under the necessity, from historical and practical standpoints. of supplementing the revenues of the States and communes from its own revenues. But the present provisional settlement, whereby the States and communes receive fixed percentages of certain taxes and the Reich guarantees the yield of these taxes, cannot be considered a provident arrangement for the Reich. Under this plan, if Germany prospers and its revenues from these taxes increase the Reich retains only a small part of the increase. But if for any reason these revenues declined not only would the Reich's share in them decline, but the Reich would also have to draw on its other revenues to make good its guaranty. This actually happened in 1926-27, and on the basis of the present budget estimates it will happen again, though to a, lesser extent, in 1927-28. Under this system the Reich is constantly in danger of being whipsawed, and it urgently needs a new basis of settlement by which it will assume control of its most important revenues. In this connection it must be remembered that while the Reich is primarily responsible for the payment of reparations, the States are also subject to the same charge. Article 248 of the Treaty of Versailles provides, in part, as follows:

" Subject to such exceptions as the Reparation Commission may approve, a first charge upon all the assets and revenues of the German Empire and its constituent States shall be the cost of reparation and other costs arising under the present Treaty or any treaties or agreements supplementary thereto or under arrangements concluded between Germany and the Allied and Associated Powers during the Armistice and its extensions." These provisions must necessarily be taken into account in connection with any financial arrangements between the Reich and its constituent States.

Second, the payments to the States and communes under the terms of the financial settlement are made without regard to their financial condition and requirements. It was, in fact, announced as one of the reasons for the new law that the financial statistics called for by the law of August 10, 1925, had not yet been furnished by the States and communes, and that the Reich, therefore, lacked the information as to their financial necessities that would be required for any definitive settlement. The Reich is thus in the position of making larger and larger transfers to the States and communes without any knowledge of their financial requirements, although its own budget at the same time is showing a large excess of expenditures over receipts. It would seem vital, from the point of view of sound budget-making, to require the States and communes to make a clear showing of necessity before permitting them to make drafts on the Reich to an extent that involves a large deficit in its budget.

The States and communes in Germany perform so many of the functions of the Government, and at the same time depend for so much of their resources on the transfers of revenue from the Reich, that the lack of information about them leaves a serious gap in any study of the German budget. It is a matter of serious criticism, not merely of the States and communes but also of the Reich itself, that so many years have passed since stabilization with so little accomplished in the direction of improved financial information about the States and communes. The preparation of financial statistics of this character should not, after all, raise any great difficulties, and when the law of August 10, 1925, was passed it seemed reasonable to suppose that the States and communes would have no trouble in furnishing in good season the information required. In view of the manifest relation between this information and the demands of the States and communes for transfers of revenue, the Government of the Reich, as a condition of any new financial arrangement with them, might well have been insistent on securing the necessary information. But the whole matter seems to have been allowed to drift, the Reich has made a new provisional increased guaranties to the States and communes without adequate knowledge of their financial requirements, and the whole field of the public finances of the States and communes remains as obscure as ever. The few statistics which have been made available up to this time apply, in fact, to the revenues of 1925-26, and have little more than historical interest.

Third, the whole tendency of the present system is to confuse the responsibility for taxation as between the Reich and the States and communes. It is, on the whole, a sound principle of taxation that taxes should be levied by the same Governmental authority that makes the expenditures. Under the system in force in Germany, however, the States and communes have the function of spending a large share of the taxes that the Reich has the responsibility of collecting. This in itself tends to relieve the States and communes from the pressure for economy in expenditure that would certainly exist if theirs was the responsibility to levy the taxes necessary to meet their own expenditures.

The Experts' Report itself discussed at length the subject of the financial relations between the Reich and the States and communes. It stated, among other things, as follows:

"We do not pretend to be in a position to make detailed recommendations; the subject is a complicated one and involves the consideration of social and political factors, many of which have deep roots in historic traditions.

"'Moreover, if our recommendations are accepted in their entirety, self-interest alone may almost confidently be relied upon to force the German Government to make provident arrangements with the States, and it has already given us an assurance that the régime of increased subsidies has come to an end and will not be revived.

"It is clear, however, that in the near future the German Government must take steps to put the relations between the Reich and its component parts on a regular basis which shall ensure that the latter are not a constant drain upon Federal resources; the existing hole in the budget must be plugged.

"It does not suffice, in our judgment, for the Reich to remain in supine contentment with the present situation merely because it has been the result of constitutional evolution. Germany waged war as an undivided whole and the financial responsibility of the Reich to the Allies cannot be qualified or weakened by an attitude of passive acquiescence in the undiminished rights of subordinate areas. So long as Germany has any external obligations they must be paramount, and the resources normally to be assigned to the States and communes must be clearly defined, and care must be taken to secure that these resources are not more than adequate to legitimate needs.

"Where further assistance must be given by the Federal Treasury the amount of such assistance should again be strictly proportioned to the necessities of each case., and subordinated to continually increasing central supervision by the Federal Treasury of local expenditure".

The Experts, in announcing these conclusions, did not fail to recognize the historical difficulties inherent in the problem, but the same time expressed the opinion that "the situation has hitherto been governed by merely political or administrative opportunism rather than by clear financial principle".

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(c) The extraordinary budget and the programme of borrowing.

The previous Report pointed out the dangers inherent in the use of the extraordinary budget, and traced its rapid expansion in the three years ending with the financial year 1926-27. The provisional accounts that are now available for 1926-27 and the budget estimates for 1927-28 indicate that of late there has been some tendency to reduce the use of the extraordinary budget. The figures, however, still reach substantial totals, and it is clear that the very ease of embarking on expenditures of a kind that may be carried in the extraordinary budget and covered by the simple expedient of borrowing will constitute a source of danger to budgetary equilibrium until it is definitely abandoned.

The original argument in favour of the extraordinary budget, as advanced a year ago and frequently re-stated, has been that capital expenditures, in principle, should not be made from current revenues but may properly be financed by borrowing. The underlying fault of this principle, as stated in the last Report, is that when applied to the Government's budget "it so easily and often leads to new and unnecessary expenditures that themselves would never be incurred if they had to pass the scrutiny of the ordinary budget. The principle itself quickly develops into an argument for new expenditure in the hands of everyone interested in advancing new projects, and sooner or later it becomes a, cloak for covering up excessive Government expenditures". The extraordinary budgets of the Reich for 1926-27 and 1927-28 have furnished many practical illustrations of the soundness of these observations, and it is to be hoped that a growing realization of the dangers of the policy will lead the Government of the Reich more and more to restrict the, present use of the extraordinary budget and ultimately to abandon it.

The recent experience of the Reich in floating loans has also helped to show the practical limitations on the policy of borrowing. The terms of the February loan and the circumstances of its issue are described in detail in the chapter on the Public Debt, and its effect upon the market for capital in Germany is described in the chapter on credit conditions. Briefly, it brought the Government into competition with the borrowing needs of German industry and absorbed a larger share of the supply of liquid capital than the German money market at the time could properly afford.

The Finance Minister of the Reich has recently indicated that instead of further borrowing, consideration may be given in the near future to the alternative of selling some of the securities which the Reich now holds as a result of its policy of making loans and investments, including the 731 millions, nominal amount, of preference shares of the German Railway Company. This undoubtedly would be a step in the right direction, for it would indicate that the policy of constantly expanding Government loans and investments had come to an end and would at the same time avoid a further increase in the public debt of the Reich. In view of the prior charge of the obligations of the Reich under the Experts' Plan, and of the very large additions which have been made to the public debt of the Reich by the revalorization of the paper mark debt, the fact that the Reich issued for budgetary purposes 500 million reichsmarks, nominal amount, of long-term bonds last year, and starts this year with authorizations to borrow 953.7 millions, is evidence of a tendency which if continued might well imperil the stability of the budget.

The root of the difficulty lies in the division between the ordinary and extraordinary budgets. Sooner or later it must he recognized that a balanced ordinary budget plus an unbalanced extraordinary budget means in fact an unbalanced budget. A financial policy which attempts to conceal this fact leads inevitably to budgetary instability.

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(d) Obscurity of accounts and budgetary practice.

The budget statements and accounts of the Reich are open to criticism on the ground of lack of clearness. By this it is not meant that either statements or accounts fail to check from an accounting point of view or that they are in any way inaccurate in their presentation of the figures. But they are presented in a manner which makes it quite impossible, even for well-informed readers, to follow them without exhaustive study and analysis.

The budget of the Reich consists of three separate subsidiary budgets, the ordinary budget, the extraordinary budget, and the war charges budget. The budget as a whole contains many transfers from one budget to another, from one account to another, and from one year to another, all of which tend to create confusion and to complicate the accounting procedure. Some of these complications have been discussed earlier in this chapter, and an attempt has been made in the tables and diagrams to reconcile them in sufficient detail to make the budget situation reasonably clear. But the fact is that without a long and detailed study there is no means of arriving at the exact budget position, or even of determining the figures of receipts and expenditures carried in the budget. The statements of cash position are equally unsatisfactory; they appear only once a month and are not complete.

This obscurity in the accounts of the Government is both unnecessary and unfortunate. Clearness in these accounts would provide one of the most effective checks on expenditure and would manifestly be in the interest not only of the Government itself but of the German economy as a whole. Clarity, moreover, could be easily achieved by administrative reform, and it would be greatly advanced if there were more frequent and more regular publication of the financial transactions of the Government, particularly of its receipts and expenditures and of its current cash accounts.

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c. The Budgets of the States and Communes.

No survey of the German budgetary position can be complete without an examination of the budgets of the States and communes, but unfortunately the necessary material is not yet available. The Finance Minister of the Reich, on February 9, 1926, issued a decree under authority of the law of August 10, 1925., requiring all the States and all except the very small communes to transmit to the Finance Ministry at regular intervals statements of their revenues and expenditures as well as copies of their draft budgets and final budget accounts. These statistics, in many cases, have not yet been received, and it is still impossible to get any comprehensive view of the finances of the States and communes. The first statistics to be published as a result of the law of August 10, 1925, appeared only a day or two ago in Wirtschaft und Statistik. The figures published show comparative receipts from taxation in 1913-14 and in 1925-26, but are mainly of historical interest. No general statistics of expenditure have yet been made available.

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1. General Observations.

In the absence of adequate sources of information, it is possible to make only one or two general remarks about the budgets of the States and communes. As indicated in the last Report, the period of surpluses is now passed, and the reserves accumulated in 1924-25 have in most cases been exhausted. The budgets of the States in 1926-27 have, on the one hand, benefited by surplus tax transfers from the Reich, amounting to about 240 million reichsmarks, and, on the other, have suffered from abnormal unemployment charges. In the current year the States and communes should receive from the Reich over 250 million reichsmarks more in tax transfers than in 1926-27, besides being relieved almost entirely of their expenditure for unemployment. The States are expected, in view of the larger guaranteed tax transfers, to reduce their taxes on real estate, trade and occupations. They are also expected to consider the position of the poorer communes when distributing to the communes their share of the transfers. It is impossible now to say how far these expectations will be realized, but the improved position of State finances, by reason of the larger guaranteed transfers, should permit of some reduction of local taxation.

The current budgets of most of the States are still in course of discussion in the respective parliaments. Prussia, however, has adopted the budget for 1927-28, and it will perhaps be helpful to present a brief study of the budget of Prussia as representative in a general way of the budgets of the States which go to make up the Reich, since Prussia. covers about two-thirds of the area of Germany and includes nearly two-thirds of its population and its industries.

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2. The Budget of the State of Prussia.

Prussia is the only one of the principal States which has adopted its budget for the financial year 1927-28. Since the last Report the filial accounts for 1925-26 have also become available, so that it is now possible to give comparative figures for the Prussian budget for four consecutive years. For 1924-25 and 1925-26 the figures are those of the final accounts. For 1926-27, only the budget estimates are available, and as regards 1927-28 the budget has been passed so recently that the analysis must be based on the draft submitted to the Landtag on December 14, 1926.

The following comparative table gives a condensed statement of the Prussian budget for the four years in question:

The budgets of the State of Prussia over this four-year period, unlike those of the Reich, show relatively little movement. The Prussian tax revenues, which are assessed largely on real estate, rents and trades, do not show the same rising tendency as the revenues of the Reich, which are derived in the main from taxes on income and consumption. Over half the total income of Prussia consists of grants and transfers from the Reich. According to the draft budget for 1927-28, for example, Prussia will receive 1,772.5 million reichsmarks from the Reich, but on the other hand is called upon to transfer 1,314 millions to its own provinces and communes. Prussia under the head of "Social Expenditures" has expended large sums for unemployment relief, but it will be observed that in 1927-28 this item shows a decrease of 322 millions, presumably due in large part to the assumption of unemployment relief by the Reich. Prussia, like the Reich, has a programme of capital outlays and loans, the largest item of which is the construction of dwelling houses. During the four years this programme has involved the expenditure of 8.5 millions, to which must be added exceptional capital expenditures of 45.8 millions made out of surpluses and the proceeds of loans. In 1925-26 and 1926-27 it appears that about 184 millions of loans were issued for similar purposes but no definite information regarding the resulting expenditures is available.

The budget for 1927-28 has only been received in aggregate form, but it seems to be in balance, so far as it goes. The Prussian budget estimates, however, do not appear to take into account either the receipt or the disposition of the proceeds of the loans. Similarly the expenditures made from the proceeds of loans do not appear to be carried in the budget estimates. Nor do the budget estimates take account of transactions such as the granting of. loans, the guaranteeing of loans or the disposal of State properties. The previous Report called attention to the fact that the State of Prussia has granted loans to a total of 97.3 millions, that guaranties of loans have been given for a further 80 millions, and that in 1924-25 Prussia received 65 millions from the Reich as compensation for the loss of productive State assets and reinvested this money in other properties. But none of these transactions are yet to be found in the budget estimates.

Under these circumstances the foregoing statement cannot be regarded as giving anything like a complete presentation of the finances of Prussia. When the statistical reports which the States and communes are required to make to the Finance Ministry of the Reich have been received and analysed it is greatly to be hoped that some plan can be worked out which will bring about not only greater completeness and clarity, but more prompt and frequent publication of their financial accounts.

Revenues from the Prussian State properties, derived chiefly from the forests, are shown in the budget statements a as follows:

The expenditures carried in the Prussian budgets for investments, loans, grants, etc., are shown in detail in the following table, which must be accepted with reserve as to its completeness.

Section V, The German Public Debt

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