Sandrine Soubeyran
- The EU's recovery from the Great Recession has been sluggish to date but recent policy shifts, investments, and market recoveries signal a newfound resilience and optimism in the EU's economic prospects.
- European equities have reclaimed their leading position over other regions in recent months, while Euro investment grade corporate bonds (FTSE EuroBIG) have also rallied.
- However, as with any economic transition, uncertainty lingers, and the true impact of these measures will take time to unfold, but the groundwork for change is unmistakably being laid.
European economies have experienced weak economic growth since the Global Financial Crisis (GFC), but could this trend be about to change?
The EU's recovery has been sluggish since GFC and the Sovereign Debt Crisis. These crises severely impacted Greece, Spain, Ireland, Portugal, and Cyprus, forcing them to seek external financial assistance to refinance their government debt or rescue their banks. Greece, Portugal, and Ireland saw their sovereign debt downgraded to junk status as soaring interest rates made it increasingly challenging to manage budget deficits. In addition, Iceland, outside of the EU, had to intervene to bail out its banks. The EU economy only regained a state resembling pre-GFC conditions in 2017, but new challenges − Brexit in 2016, the Covid-19 pandemic in 2020, the war in Ukraine, and the Russian energy crisis in 2022 − continued to test the EU's resilience. These events left EU economic growth significantly weaker compared to the US and other global regions (Chart 1).
Chart 1: EU growth weakened by major political and financial events since GFC
Source: World bank, March 2025. Past performance is no guarantee of future results. Please see the end for important legal disclosures.
Despite economic woes, European equities outperformed US and World ex US equities post GFC…
However, this pattern did not hold true for the European equity market. Despite enduring substantial economic challenges after GFC, the European equity market (as represented by the FTSE Europe Index) outperformed both the US and the World ex-US equity markets for about 10 years prior to 2015, as illustrated by Chart 2. The decisive actions of EU national governments, the IMF, and the EU played a pivotal role in bolstering financial markets and restoring investor confidence. These actions included creating new institutions to enhance financial sector stability, improving economic governance, establishing a safety net for sovereigns facing difficulties, and implementing structural reforms, particularly in the countries most affected.
…But not after Covid-19
However, unlike the market dynamics following GFC, the European equity market continued to underperform US equities during the post-Covid recovery. This disparity was not necessarily due to insufficient support from central banks or government interventions. Instead, the pandemic-induced reliance on technology during lockdowns and social distancing fuelled a rapid transition to a digital-first world. As a result, the expansion of artificial intelligence in offering data-driven solutions to address major challenges in managing the pandemic and other services from US Big Tech companies, and strong demand for their services, propelled the US technology sector to a significant rally, driving the overall outperformance of US equities.
Chart 2: European equity market rally in 2004-2015 after GFC replaced by US Tech boom post Covid-19
Source: FTSE Russell, LSEG, FTSE All World Index series as of March 21, 2025, total returns in US dollar terms. Past performance is no guarantee to future results.
A new period for optimism?
Since February 2025, European equities seem to be gaining traction once again, with recent improvements in market performance potentially indicating a shift in leadership. Factors such as the new US administration's emphasis on reciprocal tariffs and developments from EU election outcomes have contributed to the EU's plans to embark on substantial infrastructure and defence spending. These developments have sparked renewed market optimism across Europe, especially in Germany. In France, financial markets also responded positively after the coalition government settled budgetary concerns, and President Macron announced €109 billion in artificial intelligence investments. In addition, the EU enabled member states to raise up to €650 billion by reactivating the national escape clause of the Stability and Growth Pact to boost defence spending. Combined with the extensive funding already available through the Next Generation EU initiative to support the EU's green and digital transition since 2021, these cumulative investments have the potential to reshape the economic landscape and future of the European Union.
European equities have since outperformed the FTSE All World ex-US and Russell 1000. The strongest sectors include Alternative Energy, Aerospace & Defence, and Precious Metals and Mining − industries earmarked to benefit from new spending (Chart 3).
Chart 3: European equities boosted from surge in EU expenditure
Source: FTSE Russell, LSEG, FTSE All World Index series from September 21, 2024 to March 21, 2025, total returns in euro terms. Past performance is no guarantee to future results.
European corporate bonds lifted by improved sentiment
Similar to European equities, Euro investment grade corporate bonds have also rallied, with spreads narrowing significantly compared to 7-10 year German government bonds, and certain sectors even trading through Bunds. Among these, Industrial Production corporate spreads have narrowed the most, followed by Energy and Manufacturing. Tighter corporate spreads can be attributed to a combination of lower interest rates, robust demand, and rising Bund yields. Bund yields rose after the German parliament decided to amend the debt brake, prompting concerns over increased issuance. These developments have driven euro corporate spreads to lows (Chart 4).
Chart 4: Industrial, energy and manufacturing euro corporate bonds buoyed by improving investor sentiment
Source: FTSE Russell, LSEG, FTSE EuroBIG Index series as of March 21, 2025, total returns in euro terms. Past performance is no guarantee to future results.
Conclusion
The developments over recent months present a compelling narrative of potential transformation in the European financial landscape. While challenges persist, recent policy shifts, investments, and market recoveries signal a newfound resilience and optimism in the EU's economic prospects. With significant infrastructure and defence expenditures, as well as initiatives like the Next Generation EU, the region appears poised to strengthen its position in global markets.
However, as with any economic transition, uncertainty lingers, and the true impact of these measures will take time to unfold. The extra 20% tariffs in the EU just implemented by the US at the time of writing, if left unchanged and lasting, will have a profound impact on trade and global growth. Investors must weigh the signs of opportunity against the backdrop of persistent global challenges. Could this indeed mark the beginning of a brighter era for the EU financial market? Only time will tell, but the groundwork for change is unmistakably being laid.
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