Until now, private bus companies in Europe's top economy were restricted in what services they could offer customers travelling between cities in Germany linked directly by rail.
"We are freeing the long-distance bus journey market from its restrictions," Transport Minister Peter Ramsauer said after the cabinet agreed on the measure.
"The consumer should be able to choose to travel long-distance at low prices and in a more environment-friendly way by bus," he said.
The aim of liberalisation is not to increase competition with the railways but to provide "a real alternative to cars," thereby reducing pollution and congestion on motorways, Ramsauer said.
"For example, 50 people can travel long-distance from Munich to Frankfurt in one bus rather than in 25 or even 50 cars," he added.
Currently coach services account for just 1.5 percent of the long distance travel market in Germany.
Long-distance buses will however not be allowed to transport passengers on journeys of 50 kilometres (30 miles) or less so as to reduce the chance they might compete with local public transportation services.
The measure, which must still be debated by the upper house of parliament, the Bundesrat, is expected to come into effect early next year.