European Outlook 2026: From Risk Recognition to Action

Following a year defined by fractured global relations, the EU has emerged with greater internal alignment on priorities, both between member states and its citizens. A recent poll from Eurobarometer shows respondents ranking defence, economic competitiveness, and resource independence as priorities the EU should focus on to strengthen its position in the world. All three were vital to economic resilience in 2025 and will continue to be engines of growth over 2026.

Efforts to re-shore defence and energy production are already showing up in growth data. Industrial production gained momentum in the second half of 2025 and fortified the labour market, boosting job creation to 1.12 million for the full year and driving the unemployment rate to a low of 6.2%. This momentum was funded by record-high disbursement in the EU’s Recovery and Resilience Facility (RRF) which sharply accelerated in the second half of 2025 reaching EUR86bn by the end of the year.

On external trade, US tariff shocks surprisingly led to a 3.5% increase in EU goods exports, but excluding Ireland’s exports the result is less positive, with a 5% decline. The impact has been uneven across the bloc: French exports to the US fell by around 1%, in stark contrast to the 9% decline seen in Germany and Spain. In a global perspective, the downturn should be understood within a longer structural trend of declining market share, as exports to China fell for the second year in a row (−5% in 2024 and −6.5% in 2025).

Fresh trade deals with Mercosur and India promise to challenge the downturn, deepening relationships with emerging markets. At the same time, intra-EU trade continues to grow, creating a deeper single market and boosting competitiveness for European industry. In the short term the growth cycle will be supported by a strong labour market, higher industrial production, and a favourable investment environment following rate cuts by the ECB. Natixis CIB forecasts growth to remain on a moderate but robust path between 0.3% and 0.4% per quarter over 2026, supported by growing public investment in the medium term.

Cushioning external trade shocks while stimulating high-growth industries like green energy, digital infrastructure, and defence puts pressure on public finances. As fiscal expansion rolls out across the EU, some states are better equipped to maintain a sustainable debt-to-GDP ratio than others. Germany and Netherlands are best positioned to expand public spending as prior rounds of fiscal consolidation allow for greater flexibility. This contrasts with France, Italy, and Belgium’s mounting deficits which is set to stand at119%, 132%, and 110% in 2027 respectively. Spain and Portugal – long regarded as les enfants terribles of public debt – have shown strong fiscal responsibility, consolidating debt year-on-year.

Germany’s upcoming spending bill will drive fiscal impulse across the Euro-area, counterbalancing negative fiscal inputs from France, Italy, and Spain to a 0.2pp increase over 2026 before dropping to -0.2pp in 2027.

The short-term outlook for the Euro area is supported by a stable inflation path, set to remain on target around 1.9% yoy, ticking up to 2% yoy in 2027, supported by lower energy prices. This should in turn keep ECB rates on hold, maintaining a dovish bias over 2026. An exchange rate shock could trigger a change in course for monetary policy , Natixis CIB believes an appreciation of the Euro against the US Dollar to 1.25 or higher could justify a rate cut in 2026 as Europe seeks to protect competitiveness.

Germany’s fiscal package makes it a high-growth market for 2026, GDP growth already accelerated in 2025 after three years of stagnation with manufacturing orders already surging by 9.6% in Q4 compared with Q3, a boost seen both in domestic and foreign orders. Momentum is expected to ramp up further as fiscal impulse peaks over 2026. At the same time wage increases – led by a statutory minimum wage increase of +8.5% in 2026 and +5% in 2027 – will boost purchasing power, stimulating private consumption. The growth trajectory will cool in the long term as higher wages and fiscal consolidation prompt a demand shock and deteriorate competitiveness.

In France, political instability and the state budget – or lack thereof – maintained high levels of uncertainty last year, knocking 0.2-0.3 p.p. off GDP growth in 2025. However, some key sectors performed well, keeping GDP growth at 0.9%, close to the Euro area average excluding Ireland.

Markets regained confidence as the budget was adopted by the National Assembly in early February 2026, reducing the risk of a new snap election: the OAT bund 10- year spread tightened to around 60 bps from the 86bp peak last October.

Over 2026, GDP growth is expected to rise to 1.1%, supported by key manufacturing sectors such as defence and spacecraft and aircraft. This is vital at a time when emblematic French products are suffering from US Tariffs, with wine and cosmetics exports to the US falling by 40% and 25% respectively in Q4 2025 compared to Q4 2024 . Looking ahead, the French cost competitiveness will continue to improve compared compared to its European peers due to lower inflation. The hourly cost of labour is now slightly below that of Germany in the manufacturing sector. Familiar risks will re-emerge in the second half of 2026 as a new round of budget negotiations get underway and the 2027 presidential election cycle brings fresh political uncertainty.

In Southern Europe things are moving at two speeds, with Spain and Portugal pulling ahead while Italy lags. The Iberians continue to enjoy GDP growth above the Euro area average, a trend set to continue with GDP growth in both markets predicted above 2% in 2026. The trend is driven by strong labour markets in both markets, since 2019 Spain has been responsible for 24% of all new jobs in the EU despite comprising only 11% of GDP. In parallel, Portugal crated 4% of new jobs while making up 1.8% of GDP. Low inflation and a favourable investment environment (enabled by lower ECB rates and effective use of EU funds) allowed for strong domestic demand, adding to the sunny outlook in the Iberian Peninsula. Italy diverges from the trend as weak domestic demand keeps GDP growth below the EU average, this is set to continue into 2026 with Italy forecast to see 0.9% GDP growth, well below the 1.3% EU average.

Structurally, the disparity can be attributed to differences in public debt consolidation strategies. Here, Portugal achieved the most impressive debt reduction, on track to reduce their public debt ratio below 90% in 2026, down from 121% in 2021. On a similar trajectory, Spain is expected to reduce their public ratio below 100% in 2026, down from 116% in 2021. The key difference between the two is Spain’s over-reliance on GDP growth as a source of debt reduction, its political fragmentation means it has been unable to pass a budget since 2023. This contrasts Italy’s debt trajectory as persistent low growth makes it difficult to manage high interest payments, which stand at 4% of GDP, nearly double that of Portugal, even if political stability leaves it less exposed to short-term shocks.

Central Europe is another out-performer, with Poland, the Czech Republic, and Hungary seeing strong domestic demand and resilience. Across the three, structurally tight labour markets are growing real wages between 7-11% per year, driving up consumption. This is largely thanks to investments from the EU Recovery and Resilience Plan (RRP) funds since 2021. Poland is set to disburse the 50% of RRP funds in 2026, forecast to maintain strong GDP growth at 3.5%. The Czech Republic will disburse their final 30% of the fund, forecast to see a more modest 2.4% GDP growth in 2026. Hungary stands out as having the highest growth recovery potential in 2026. Its use of RRP funds was suspended due to concerns over the rule of law, however this could change if this April’s parliamentary elections lead to a change of government. The political shift could unlock over 90% of Hungary’s remaining RRP fund and boost GDP growth from 0.4% in 2025 to 1.9% in 2026.

The region will benefit from a favourable policy mix amid political uncertainty. All three states have heightened fiscal deficits, however, positive monetary policy, low inflation, and dynamic wages open the door for further easing. Natixis CIB believe Hungary could see up to three rate cuts in 2026 if the growth trajectory holds, Poland is likely to have two rounds of easing, while the Czech Republic is expected to only have one. Across the region, military spending and state subsidies continue to act as sources of economic stimulus. Additionally, German fiscal expansion is expected to have spillover effects into the region’s strong automotive sector, further supporting the region.

Softer global trade and a weaker labour market are contributing to a slowdown in UK GDP growth, expected to slow from 1.3% in 2025 to 1.1% for 2026. At the same time, underlying price pressures are expected to ease with inflation forecast to reach the 2% target by spring 2026, a year earlier than expected. This is attributed to the unwinding of previously administered price hikes and the effects of the November 2025 budget.

The Bank of England’s Monetary Policy Committee remains divided over whether inflation will remain on target. During the February meeting, four out of nine members voted for a rate cut as those members are more confident in the sustainable convergence of inflation towards the target. The remaining five members hold a more hawkish stance, cautious that the return to headline inflation may be temporary with wage pressures too large to sustain the 2% target.. Crucially, private sector pay growth has cooled to 3.4% in Q4 2025, close to the 3.25% level needed to stabilise inflation at 2%, according to the Bank of England. Natixis CIB assigns a high likelihood of two rate cuts by August 2026, , with a smaller but still significant chance of a third cut later the year , going beyond market expectation of two rate cuts towards the end of the year.

Government spending will increase in the short term, resulting in fiscal consolidation on the back end.

Overall, the European outlook remains reassuring but modest as the EU reaches greater alignment on strategic priorities. Renewed focus on defence, decarbonisation, and resource resilience will deepen the single market amidst a tide of deglobalisation. Germany’s fiscal plan will be a major driver of growth in 2026, generating industrial spillover to supply chains across western and central Europe, while states with low inflation enjoy greater price competitiveness. At the same time member states will aim to rebalance fiscal deficits, with Spain and Portugal showing the greatest promise from a booming labour market. Elsewhere, the UK continues a stabilising path as slowing wage growth settles inflation closer to target.