Europe’s economy faces the danger of ongoing decline, economists say

Last year, the euro zone with its largest economies, Germany and France, was in political and economic turmoil which means that neither has a budget for 2025.

Economists say that the trajectory for both countries is worrying, warning that the absence of growth, fiscal imbalances and political intransigence could lead to a decline and a loss of standing for Europe, in general.

“The situation today is different from before [sovereign debt] crisis in that Europe’s most acute problems are no longer concentrated in smaller economies like Greece. Instead, it’s the two most important economies in Europe that are in trouble,” Neil Shearing, economist at the Capital Economics group said in an analysis in December.

“Europe faces continued decline without fundamental reform at its heart,” said Shearing, noting that if it is not carried out, “it is difficult to escape the conclusion that the future of Europe is one of very low growth, continued concerns about fiscal sustainability and a diminishing sense of being in a world increasingly characterized by a superpower rivalry between the United States and China.”

As it stands, neither France nor Germany have a 2025 budget in place amid political struggles that at the end of the year brought down their governments.

New elections are expected in Germany in February, and analysts are betting on new parliamentary elections in France next summer. The countries are now operating with a provisional budget, having completed their 2024 taxation and spending provisions this year, and it is not certain when either will agree to a 2025 budget.

France and Germany face different economic challenges, reflecting both the dangers of overspending and underspending.

France had a budget deficit estimated to hit 6.1% and a debt pile seen at 112% in 2024, according to the IMF. The new government under Prime Minister Francois Bayrou is expected to struggle to get warring deputies from all sides to pass a 2025 budget, like his predecessor Michel Barnier.

Germany, meanwhile, faces an early federal election in February, after the governing coalition under Chancellor Olaf Scholz collapsed in the fall. due to divisions over economic and budget policies. The problem of Germany is one of spending and underinvestment that have led to a decreased economic growth.

“In stark contrast, Germany’s problem is excessively tight fiscal policy,” said Shearing of Capital Economics.

“The so-called ‘debt brake’ significantly reduces the scope for deficit spending, even though the burden of German public debt is low. With a stagnant economy, Germany benefits from a looser fiscal policy – and since this would almost certainly suck in imports from other countries, this would help support growth (and therefore fiscal consolidation) in France and Italy,” he said.

The European Central Bank has sought to boost economic activity in the euro zone by cutting interest rates, implementing a 25 basis point reduction in December – its fourth cut this year – to take its key rate to 3%. The central bank said it expected the euro zone economy to grow by 0.7% in 2024 and 1.1% in 2025. Inflation in the bloc was seen at 2.4% in 2024 and 2.1 % this year.

Risks to economic growth “remain tilted to the downside,” ECB President Christine Lagarde said at a press conference in December, warning of the potential for “greater friction in global trade” and that “more confidence low could prevent consumption and investment from recovering as quickly as possible.” as expected.”

Some analysts, such as Kallum Pickering, chief economist at Peel Hunt, told CNBC that the ECB should be bolder and go for bigger rate cuts in 2025.

Others say that the rate cuts can not help with structural problems, such as low productivity growthand headwinds like potential tariffs on European imports to the United States., which are likely to be presented by the President-elect of the United States Donald Trump.

“Our base case is that Europe is going to face a pretty difficult year in 2025,” Jari Stehn, chief European economist at Goldman Sachs told CNBC, with the investment bank forecasting growth of 0, 8% for the euro zone in 2025 – compared to 2.5% for 2025. The United States, in the same period.

“There are a lot of issues … high energy prices, China’s slowdown, political uncertainty, trade tensions are all negative things,” he told CNBC’s “Squawk Box Europe.” However, investors were still looking for potential bright spots in the region.

“People are wondering if in Germany, when there are new elections, we can get more fiscal support – maybe, we think there will be, but we think that in the end it will be limited,” said Stehn.

“People also wonder if the European consumer could finally surprise on the side, the savings rate is high, there is really some money. [that could be spent]but again we think there will be some support, but it is unlikely that there will be a big surprise.

Stehn noted that lower interest rates “will help a bit with savings and consumer spending, and that’s one of the reasons why we really think Europe will grow next year, despite these challenges.”

“But at the same time, I think we also have to be realistic that a lot of the headwinds we talked about [such as] energy prices, China, structural things. Cutting taxes is not going to solve all of these things,” he said.

“Ultimately, it will be a challenging environment.”