Switzerland and Germany hammered out the new deal earlier this month after a diplomatic spat that lasted years. Germany's states stand to net billions of euros in revenues from wealthy individuals who have stashed cash in Switzerland to avoid tax.

Merkel's government was forced to amend the deal and add tougher measures against tax dodgers after the SPD rejected an initial deal last September.

However, the revisions have failed to appease the SPD which is threatening to veto the new deal in the Bundesrat upper house of parliament, where Merkel is short of a majority and needs opposition support.

Merkel is betting that SPD-led states will ultimately cave in, lured by the prospect of billions of euros of much-needed cash. Germans hold an estimated 150 billion euros in Swiss accounts.

"No agreement is the worst solution for all parties," said the Finance Ministry in a statement released after the cabinet's approval.

"Without an agreement, millions (of euros) of irretrievable tax claims lapse ... and illegal money continues to mount up. To reject the agreement damages the public," it added.

Some observers say the SPD may be more flexible after two closely-watched regional elections next month, one in Germany's most populous state of North Rhine-Westphalia.

Switzerland's decision to issue arrest warrants for three German civil servants accused of industrial espionage for buying the bank account details of German tax evaders ratcheted up tensions just before the deal was made.

(Reporting by Madeline Chambers; Editing by Noah Barkin)

• A Permanent Economic Emergency