Fast reading
- ECB points to elevated debt levels and budget deficits as cause for concern.
- European Commission downgrades growth forecasts on tariff fears and a weakening manufacturing sector.
- Uncertain political environment could fuel future volatility.
As the dust began to settle on the US election result, investors’ concerns this week turned to Europe and the question of sovereign debt sustainability.
The catalyst for the scrutiny was the European Central Bank’s (ECB’s) latest Financial Stability Review which pointed to “elevated debt levels and high budget deficits” across the eurozone but also lacklustre growth, tariffs and political uncertainty as potential future risks for the bloc.
Failure to address these risks could result in a repeat of 2012’s debt crisis, the report warned.
“The themes of lower growth, lower inflation and lower rates in Europe have already been apparent in 2024 and we expect that to continue to play out in 2025,” says Andrew Lennox, Senior Portfolio Manager, Fixed Income at Federated Hermes Limited. “That means we can expect to see a divergence between what’s happening in the US and Europe and potentially the rest of the world,” Lennox adds.
Figure 1: Global inflation, pre- and post-pandemic
“Europe remains a concern,” says Paul Dalton, Investment Director for Equities, Federated Hermes Limited. “The economy looks sluggish and, in contrast to the US, the regulatory environment is a relative headwind for the region.”
Dalton highlights European politics as an additional point of concern for investors. Here, he says, the collapse of Germany’s ruling coalition in November and the expected federal election on 23 February is an obvious candidate, especially given the recent progress made by parties at either extreme of the political spectrum.
“With this in mind, we expect that earnings resilience, high quality management and a global footprint will be characteristics that will likely be favoured by investors,” adds Dalton.
Figure 2: Global GDP growth (%, QoQ)
The ECB report comes a week after the European Commission downgraded its 2025 growth forecast for the eurozone from May’s 1.4% estimate to 1.3%.
In contrast, the Commission said it expects the US economy to grow by 2.1% in 2025 and 2.2% in 2026. The Commission highlighted a faltering manufacturing sector in Germany and the possible impact of tariffs as being among the factors contributing to the growth downgrade for Europe.
The pan-European STOXX 600 Index fell 0.34% for the week to market close on Thursday (21 November) bringing one-month performance to -3.93%1. The German 10-year Government Bond Yield, the benchmark for the euro area, fell to 2.256% in early trading Friday (22 November)2.
Rising global trade tensions and a possible further strengthening of protectionist tendencies across the world raise concerns about the potential adverse impact on global growth, inflation and asset prices.
– ECB Financial Stability Review
Figure 3: Gross debt to GDP, Q2, 2024
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1 Bloomberg, as at 21 November 2024.
2 Bloomberg, as at 22 November 2024.
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