Chancellor Angela Merkel's cabinet agreed to allow up to 850 soldiers to serve in the country for another year.
However their mission will shift away from combat operations and toward training and support of Afghan forces when the current mandate runs out at the end of this year.
Germany now has about 1,500 soldiers in the country, down from a maximum of more than 5,300.
Parliament must still approve the measure, in a vote scheduled for December.
The cabinet ministers also debated a sobering progress report on the German military's engagement in the war-ravaged country.
The conclusions found ongoing deficits in the fight against the narcotics trade, rampant corruption and continuous bloodshed in the 13 years since US-led forces invaded the country to oust the Taliban in the wake of the September 11, 2001 attacks.
But it said there was "no question that Afghanistan is in far better shape today" than when Germany first entered the country, noting the success in forming a "national unity government" after elections this year.
NATO's International Security Assistance Force will finish operations at the end of the year and be replaced by a far smaller training and support mission named "Resolute Support".
Germany has the third largest contingent among the NATO forces after the United States and Britain. They are deployed mainly in the north of the country.
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