By Maria Martinez

BERLIN (Reuters) -Germany's cabinet approved on Tuesday a draft budget for 2025 and a budget framework for 2026 with record investments to revive the economy and a strong commitment to defence spending ahead of a key NATO summit.

To stimulate growth after Europe's biggest economy contracted for two consecutive years, the drafts include investments of 115.7 billion euros ($134 billion) in 2025 and 123.6 billion euros in 2026, up from 74.5 billion euros in 2024.

"We are creating a historic turning point," Defence Minister Boris Pistorius said before travelling to The Hague for the NATO summit, referring to the major increase in defence spending.

"The expectations of NATO and our NATO partners toward Germany are high, and rightly so."

The plans represent a big gamble as Germany's new centre right-led coalition government looks to counter surging support for the far right and bolster Europe as U.S. President Donald Trump moves to reduce Washington's involvement in the continent.

The plans - which also include mid-term financial projections - showed interest payments on debt would more than double from 30.2 billion euros in 2025 to 61.9 billion in 2029.

By 2029, interest payments would represent more than 10% of a budget of 573.8 billion euros.

Germany's 30-year government bond yield jumped 8 basis points to 3.065% and its 10-year yield rose 5 bps to 2.60% as investors factored in higher borrowing.

However, Germany spends less on debt interest as a share of GDP than other major European economies such as France, Britain and Italy, according to International Monetary Fund figures, and despite the projected rise, this trend is likely to continue.

'NEW ECONOMIC STRENGTH'

The mid-term projections showed Germany would raise defence spending to 3.5% of economic output by 2029 from 2.1% in 2024, funded through a nearly 400-billion-euro borrowing programme.

Germany's total defence spending is expected to rise from 95 billion euros in 2025 to 162 billion euros in 2029.

"For us as the largest economy and the largest NATO partner in Europe, the issue of external security and defence capability is once again an absolute priority in government action," Pistorius said.

The two-day NATO summit is intended to signal to Russian President Vladimir Putin that the alliance is united, and determined to expand and upgrade its defences to deter any attacks.

Germany's investment surge will be possible thanks to a special 500-billion-euro infrastructure fund and an exemption from debt rules for defence spending approved in March.

"With this budget and the 500-billion-euro investment fund, we are setting in motion what we need now to ensure new economic strength, make our country modern and future-proof and to enable safe living in Germany in the future as well," Finance Minister Lars Klingbeil said.

From 2025 to 2029, Germany would borrow a total of 500 billion euros for its budgets, and an additional 270 billion through its infrastructure fund, according to plans.

Adding that to a defence fund created by the previous government when Russia invaded Ukraine in 2022, total borrowing in the five-year period would rise to 847 billion euros.

After former chancellor Olaf Scholz's coalition collapsed in November, the last government ran out of time to pass the 2025 budget. Germany has been operating on a provisional budget since the start of the year.

The budget committee will finalise details of the 2025 budget in September, when it should also be approved by lawmakers.

The first draft of the 2026 budget should be approved on July 30. It is to be discussed in parliament in September, then approved in the lower house of parliament in November and the upper house in December, following the usual schedule.

($1 = 0.8626 euros)

(Reporting by Maria Martinez. Editing by Matthias Williams, Toby Chopra and Mark Potter)