Europe’s economy has become a favourite target for pessimists.
Slow growth, high taxes, political infighting, immigration, ageing demographic, all perfect examples to use in order to paint a bleak picture.
But the perception of a collapsing continent is exaggerated.
In reality, Europe is stagnating in some areas, thriving in others, and facing a test of execution rather than survival.
The great European puzzle
Europe looks stable. Inflation is nearly back to target, unemployment is low, and the worst of the energy shock is in the rearview.
However, the continent is growing too slowly to pay for its promises.
The eurozone will expand by just 1.2% this year and 1% in 2026, according to KPMG. Inflation is expected to slip below 2% by the end of 2025.
The European Central Bank is close to ending its rate-cutting cycle, with the deposit rate likely to settle at 1.75%.
At first glance, that looks like macroeconomic success. But not so quickly.
Europe has kept jobs but lost momentum. Its companies are profitable yet invest less.
Its governments spend heavily yet deliver little productivity growth. The model that guaranteed security and comfort is now too expensive to sustain.
A safe continent that forgot to grow
The truth is that the average European lives longer, takes more holidays, and enjoys more social protection than the average American.
But that comes at a cost.
For example, France spends more than 31% of its GDP on social protection, the highest in Europe.
The country’s public debt is now 113% of GDP.
France’s political chaos, having changed several prime ministers in 15 months, is not just about ideology. It is a reflection of the arithmetic.
When you spend heavily on pensions and welfare, there is less room for investment. When reforms stall, debt grows and confidence fades.
And markets know this. French equities dropped almost 2% after the latest government collapse.
Other countries are in better shape but face the same math. Germany’s economy is flat.
Italy is stable for once, but it still carries a debt load of over 135% of GDP.
Even the Netherlands and Ireland, long seen as EU success stories, are reporting slower business investment.
Across the bloc, the cost of Europe’s social model is outpacing the income that funds it.
Why the US keeps pulling ahead
America’s GDP per capita is now roughly 50% higher than that of the eurozone when measured at market exchange rates.
Adjusted for prices, however, the gap becomes smaller, although still there.
Analysts suggest that much of the difference is due to hours worked instead of productivity. Europeans simply work less, and that’s by choice.
But over time, fewer hours also mean less innovation, less capital formation, and smaller markets for scale-driven industries.
In technology, the difference is striking. US productivity per worker has risen by more than 10% since 2019. In Europe, it has barely moved.
Almost all the gap comes from the digital sector.
America has multiple innovation clusters like Silicon Valley, Boston, and Austin, where venture capital, private equity, research, and talent combine. Europe’s clusters remain fragmented by borders and rules.
Even in 2025, a start-up in Munich, for example, cannot easily scale across Europe.
National regulations, licensing, and tax differences turn the single market into 27 small ones.
The European Commission knows this, but change is slow. A year after Mario Draghi’s report urging 382 competitiveness reforms, only 11% have been implemented.
Investment as a share of GDP fell in 2024 instead of rising.
Europe’s problem is not a lack of ideas or capital. It is coordination. The United States builds new industries with speed.
The EU studies them, funds them, and debates who should run them. By the time consensus arrives, the opportunity is gone.
The illusion of stability
Unemployment is low across the bloc. Germany’s rate is 3.7%. France’s is 7.5%. Even Spain, long a laggard, is near 10%, its best level in years.
Yet consumer confidence is weak, and households are saving more than ever.
German and French saving rates are near 19%, far above their pre-pandemic averages.
People are not spending because they don’t trust future growth.
Low inflation and low rates will not fix that. Europe’s problem is not cyclical, but fundamental.
Without stronger productivity and investment, higher wages will just squeeze margins.
The continent risks a decade of Japanese-style stagnation, with decent jobs but little progress in living standards.
At the same time, governments are spending more, not less. The new EU fiscal rules allow temporary exemptions for defense, but debt service costs are rising. Fiscal space is shrinking.
KPMG projects that several large members will still run deficits above the 3% limit in 2026. The political appetite for deeper cuts is close to zero.
What investors should actually watch
Europe is not the basket case the headlines suggest. Inflation is under control, labour markets are tight, and financial stability is strong.
But the structural picture matters more than the cyclical one. Three indicators tell the real story.
First, watch progress on a true single market for services and data. Talks of EU Inc are still gaining momentum, and any sign that Brussels is finally harmonising digital regulations will be a signal for long-term investors.
It would expand the addressable market for European tech and lift valuations.
Europe saves more than the US but invests less because its capital is locked in banks and pension funds.
A functioning cross-border equity and bond market would unlock domestic savings and cut dependence on US finance.
Another critical component is the speed of project delivery. Industrial policy and green-energy plans exist in abundance, but approvals drag on for years.
If the EU can shorten permitting and procurement cycles, infrastructure and defence spending could become a genuine growth engine instead of another fiscal burden.
For now, investors should expect steady but unspectacular returns. The eurozone will likely grow around one percent next year, with inflation close to target and one final rate cut from the ECB.
That is not exciting, but it is stable. The upside lies in reform. If Europe can fix its scale problem, the region will surprise on the positive side.
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