The German federal fiscal system is based on budgetary autonomy of the different layers of government while simultaneously attaching a high importance to realising broadly equal living conditions across the federation. The latter is reflected in both a high degree of co-operation and revenue sharing between the authorities and a generous transfer system to promote social cohesion. While the system has been successful in promoting a high standard of living even in regions whose economic capacity is low, tensions have emerged. Firstly, it has been difficult to ensure a sustainable fiscal policy, and the size of the overall deficit makes it difficult for the automatic stabilisers to operate freely. Second, overlapping responsibilities between governments and the financing of public spending programmes via inter-governmental transfers provide individual governments with little incentives to contain costs and demand. Thirdly, social spending often discourages a higher utilisation of labour. Furthermore, public expenditure is going to have to cope with increasing pressure due to the substantial deterioration of the old-age dependency ratio projected for the next years and decades and the continuing fiscal burden associated with reunification....