In its latest Financial Stability Review, the European Central Bank (ECB) highlighted rising global trade tensions as a significant risk to the eurozone economy. The report also noted that weak economic growth now presents a greater threat to the region than high inflation.
Slowing Economic Growth Replaces High Inflation as Key Concern
The eurozone recorded a 0.4% GDP growth in the third quarter of 2024, the highest in two years, while headline inflation eased to 2% in October. Despite progress on inflation, the ECB flagged concerns about the fragility of economic growth. The report stated that financial markets have experienced a resurgence in volatility since May, with further fluctuations “more likely than usual” due to elevated asset valuations and concentrated risks.
“Rising global trade tensions and an increase in protectionist tendencies worldwide raise concerns about their adverse impact on global growth, inflation, and asset prices,” the ECB’s review warned. These developments underscore the challenges posed by a worsening global trade environment for the eurozone’s economic and financial stability.
U.S. Policies and Geopolitical Risks Add to Uncertainty
While the report did not directly reference Donald Trump’s re-election as U.S. president, his proposed policies—including a 10% tariff on all imports and higher rates on countries like China—have triggered widespread concerns. Economists predict these measures could harm eurozone exports, potentially prompting the ECB to implement more aggressive interest rate cuts, which might further weaken the euro.
ECB Vice President Luis de Guindos emphasized the added uncertainty posed by U.S. policy changes. “Inflation trends have been positive, but the growth outlook remains weak,” he stated. European Commission forecasts indicate that eurozone growth will be below 1% in 2024 and slightly above 1% in 2025.
De Guindos also highlighted subdued consumer spending and significant geopolitical risks, including the ongoing conflicts in Ukraine and the Middle East. These factors, combined with uncertainty around future U.S. policies, create a challenging environment for the European economy.
Sovereign Debt and Corporate Risks Pressure the Economy
The report also expressed concerns about rising sovereign debt servicing costs and weak fiscal fundamentals in several eurozone member states. High borrowing costs and slow growth are straining corporate balance sheets, particularly for small and medium-sized enterprises (SMEs) and lower-income households. These groups face heightened credit risks if economic growth slows more than expected.
“In a context of elevated macro-financial and geopolitical uncertainty, a sudden sharp reversal in risk sentiment could occur due to high asset valuations and concentrated risk exposures within the financial system,” the report cautioned.
Conclusion
Rising trade tensions, geopolitical risks, and slowing economic growth collectively threaten the eurozone's financial stability. Moving forward, the ECB will likely need to balance external economic challenges with internal structural issues. For investors, closely monitoring ECB policy updates and geopolitical developments will be critical to managing risks and identifying opportunities in the evolving market landscape.
