Europe’s economic landscape finds itself in a precarious position amidst a political maelstrom.Even before the French and German governments collapsed,the continent’s economy was struggling.Tepid growth, lagging competitiveness when compared to the U.S. and China, and an ailing auto industry are just some of the challenges. Then there’s the looming question of where to find billions for defense against Russia. Adding fuel to the fire,Donald Trump’s threat of tariffs hangs heavy.Finding solutions to these complex issues becomes an even steeper climb as the two nations that comprise almost half of the eurozone economy remain embroiled in political paralysis,with no clear resolution in sight until well into 2025.
The once powerful Franco-German axis, the engine that drove Europe forward, has sputtered to a standstill, leaving a significant void. French Prime Minister Michel Barnier resigned after losing a vote of confidence, thrusting the country into a period of political uncertainty. While President Emmanuel Macron will appoint a successor, the new head of government will lack a majority, making decisive action a challenge.Elections, constitutionally mandated, are still months away.
Germany isn’t faring much better. Chancellor Olaf Scholz’s coalition fractured in November, triggering an early election on february 23rd. Reconstructing a stable government could take until April, leaving a vacuum at a critical time.
However, there may be a silver lining.Friedrich Merz, Germany’s likely new chancellor and leader of the conservative opposition, appears open to loosening constitutional restrictions on borrowing.This could pave the way for pro-growth spending and investment,according to Mujtaba Rahman,managing director for Europe at Eurasia Group.
France, unfortunately, faces a more complicated scenario. “It suggests complete paralysis on the economic question,” Rahman says. “It’s highly unlikely they’re going to get a political equilibrium that has a mandate to implement a credible fiscal course correction.”
This political inertia comes at a time when Europe can least afford it. “and that’s obviously a problem for Europe because it means the great potential of the European economy is not what it otherwise should be, because you don’t have France and Germany firing on all cylinders,” Rahman adds.
Compounding these issues are long-standing structural challenges. Former European Central Bank head Mario Draghi, in a recent report, outlined recommendations such as common borrowing for public investment, EU-wide industrial policy, and integrated financial markets to bolster startups. However, without the Franco-German alignment, these crucial measures are unlikely to gain traction.
Meanwhile, the European auto industry grapples with a perfect storm. Slackening demand for electric vehicles, coupled with the looming threat of heavy fines for exceeding stringent EU emissions standards in 2025, have forced the industry to plead for a year’s extension.
However, the weakness of both France and Germany could ripple across the EU, potentially shifting power dynamics to other well-performing nations like the Netherlands or spain.
With sluggish growth projected for both France and Germany in the near future, the urgency for decisive action is mounting.
Adding to the unease is the looming presidency of Donald Trump, who takes office on january 20th. European officials are scrambling to prevent a trade war triggered by potential U.S. tariffs on European goods – a move that could substantially damage the continent’s export-driven economy.
Europe may opt to refrain from retaliatory tariffs to avoid a destructive tit-for-tat cycle. Alternatively, they might commit to purchasing U.S. liquefied natural gas to appease Trump or allocate billions more for Ukraine’s defense, addressing his concerns about NATO allies failing to meet their defense spending commitments.
While the direct negative impact on growth might potentially be modest, the current political stalemate robs Europe of a valuable possibility to actively engage with Trump.Holger schmieding, chief economist at Berenberg Bank, underscores the missed opportunity.”It would be ideal if europe — at the moment when trump is not yet in office — would prepare a big offer for Trump, such as: We spend significantly more on defense, if on trade and on Ukraine you don’t disappoint us. This is unfortunately not happening.”
“The risk is that Trump on trade might be tougher on us than otherwise because Germany and France are missing in action,” Schmieding cautions.
While the European Commission can offer concessions like increased U.S. natural gas purchases and reiterate the option of retaliation,the overall offer will be limited without the financial backing of Germany and France.
Estimates suggest that, over the next decade, 500 billion euros ($528 billion) will be needed to address the bloc’s security needs. The issuance of common defense bonds has been proposed as a possible solution. However, moving ahead without Germany, the bloc’s largest member, is tough to envision.The challenge for Europe lies in addressing critical issues like defense and competitiveness.These issues demand the financial and legislative muscle of the EU’s largest members. the question remains whether Germany and France, navigating their own political turmoil, are in a position to provide this vital support at the European level.
How could the outcome of upcoming elections in Germany impact economic policy and stability in Europe?
Interview between Time.news Editor and Mujtaba Rahman, Managing Director for Europe at Eurasia Group
Editor: Good morning, mujtaba. Thank you for joining us today to discuss the current economic landscape in Europe. With the recent political upheavals in France and Germany, many are left wondering about the continent’s economic stability. How dire is the situation right now?
Rahman: Good morning, and thank you for having me. The situation is indeed precarious. Even before the collapse of the French and German governments,Europe was grappling with sluggish growth and competitiveness challenges,especially when compared to the U.S. and China.The auto industry is notably ailing, which adds to the economic woes.
Editor: It sounds like a perfect storm. With both countries facing political paralysis,what does that mean for their economic response,especially in terms of finding funding for defence against Russia?
Rahman: You’re right; it is a perfect storm. The political instability makes it exceedingly challenging to forge cohesive solutions to pressing economic challenges. With France entering a phase of uncertainty and Germany’s coalition split,there’s a significant leadership vacuum. Both nations must address critical issues like defense spending, but without strong governments, decisive action is hampered.
Editor: And the Franco-German axis has been a cornerstone for European integration and economic strength. With its current sputtering, what implications does that have for the eurozone?
Rahman: The decline of the Franco-German axis leaves a substantial void in European leadership. France’s situation is especially troubling; Prime Minister Michel Barnier’s resignation demonstrates a lack of clear direction. Macron’s incoming successor will likely face a weakened mandate, complicating efforts to navigate economic recovery or advocate for pro-European policies.
Editor: What about Germany? With Chancellor Scholz’s coalition in disarray and an early election looming, how does that impact economic strategies in the short term?
Rahman: Germany’s early election call on February 23rd could indeed delay any economic strategy initiatives. The reconstruction of a stable government might drag on until April, just as crucial economic decisions need to be made. However, Friedrich Merz—the likely new chancellor—has hinted at being open to loosening constitutional restrictions around borrowing, which could allow for necessary pro-growth spending and investments.
Editor: That could be hopeful news for the German economy. Yet, can France overcome its paralysis? What does the future hold for its economic policy under the current conditions?
Rahman: Sadly, the outlook for France is grim. The lack of a majority for the incoming government suggests that economic decision-making will likely be stymied. As I mentioned earlier, it paints a picture of complete paralysis on economic questions. Given these internal struggles, any hopes for proactive economic reforms seem highly unlikely until clearer political stability is achieved.
editor: To wrap up, what do you believe needs to happen for Europe to move forward from this economic stagnation and political instability?
Rahman: Crucially, Europe needs a stable political framework in both France and Germany to address these urgent economic issues. Active dialog and cooperation among eurozone members will be vital as well, especially in strategic areas like defense and economic competitiveness. Moreover, swift and decisive action is required to regain investor confidence, which is currently shaken due to political uncertainty.
Editor: Thank you, Mujtaba, for sharing your insights. It’s clear that Europe is at a pivotal moment, and we will be watching closely to see how these dynamics unfold.
Rahman: Thank you for having me. Let’s hope for a more stable and prosperous future for Europe.