Recent data continues to suggest that the euro area economy starts the year with steady growth momentum, well-behaved inflation and a resilient labour market. In short, the macro fundamentals look fine, and the narrative of resilience which emerged last year remains valid. Survey data generally softened in December but on a quarterly basis both the composite PMI and the European Commission\u2019s sentiment indicator reached the highest mark since 2023 in Q4.<\/p>\n
Growth is set to be supported in 2026 by a range of factors: the German government\u2019s spending spree, final disbursements from the EU recovery fund and reasonable consumer dynamics. We also see scope for a limited cyclical recovery in industry despite persistent headwinds to exports and private investment. Overall, we see growth slowing from 1.4% in 2025 to 1.2% this year. However, annual carryover distortions disguise a story of improvement with quarterly rates set to pick up moderately through the year and we judge that risks to our forecast lie slightly to the upside.<\/p>\n
On the fiscal side, the German fiscal boost is proceeding more slowly than initially hoped but we expect the budget deficit to widen by around 1 pp of GDP to ~3.5% this year. That is less pronounced than the government\u2019s plans \u2013 we expect normal slippage and delays around infrastructure spending \u2013 but it would still provide a meaningful impulse. We expect German growth to rise to 1.1% this year (from 0.3% in 2025). <\/p>\n
Fiscal policy is set to be more neutral elsewhere in the euro area, with mild consolidation in several member states. That said, public investment in peripheral countries will be supported by the Next Gen EU programme (the pandemic recovery fund) which is not included in national deficit numbers. The scheme has now entered its final year and it\u2019s a case of use it or lose it. Peripheral countries are set to benefit from significant funding \u2013 Italy, Spain, Portugal and Greece collectively have 55bn EUR of grants yet to be disbursed from the total envelope, equivalent to ~0.3% of euro area GDP.<\/p>\n
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