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After a decade of strong export-led growth, decreasing unemployment and fiscal surpluses, the pandemic and the energy crisis have revealed structural vulnerabilities and emphasised the need for accelerating the green and digital transitions. At the same time, rapid population ageing increases public spending pressures and exacerbates skilled labour shortages. Reducing labour taxes, particularly for low-income and second earners, facilitating skilled migration, and improving adult education and training, particularly for low-skilled and older workers, is key to address skilled labour shortages. Education quality needs to improve, with a particular focus on children from disadvantaged households, to better equip younger generations with the skills needed for the green and digital transition. Fostering business dynamism, investment and innovation by lowering market entry barriers, strengthening competition, and improving access to finance for start-ups is crucial to raise productivity growth. This requires, in particular, the modernisation of the public administration to lower the administrative burden and improve the quality of public services. Addressing the existing infrastructure backlog and investment needs for the green and digital transitions will require significant public resources. To tackle these challenges while safeguarding fiscal sustainability, it is crucial to reduce tax expenditures, strengthen tax enforcement, increase public sector spending efficiency and better prioritise spending.
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Germany intends to reach climate neutrality in 2045, tripling the speed of emission reductions that was achieved between 1990 and 2019. Soaring energy prices and the need to replace Russian energy imports have amplified the urgency to act. Various policy adjustments are needed to ensure implementation and achieve the transition to net zero cost-effectively. Lengthy planning and approval procedures risk slowing the expansion of renewables, while fossil fuel subsidies and generous tax exemptions limit the effectiveness of environmental policies. Germany should continue to rely on carbon pricing as a keystone of its mitigation strategy and aim to harmonise prices across sectors and make them more predictable. Carbon prices will be more effective if complemented by well-designed sectoral regulations and subsidies, especially for boosting green R&D, expanding sustainable transport and electricity network infrastructure, and decarbonising the housing sector. Subsidies for mature technologies and specific industries should be gradually phased out. Using carbon tax revenue to compensate low-income households and improve the quality of active labour market policies would help to support growth and ensure that the transition does not weaken social cohesion.