Our economic outlook for the euro area
January 24, 2025
Our outlook for year-end 2025
0.5%
Economic growth,
year over year
We continue to forecast below-trend growth around 0.5% in 2025. The prospect of additional tariffs and related uncertainty would likely weigh on consumer and business sentiment, and continued malaise in the manufacturing sector is likely to weigh on final demand. High-frequency data suggest a weakening of fourth-quarter GDP growth to near zero.
1.9%
Core inflation, year over year
Disinflation has been strong and fast. Since reaching a peak of 10.6% in October 2022, annual inflation has dropped over 8 percentage points. Core inflation remains slightly elevated because of the slower-moving services component. But amid weak growth, we expect both headline and core inflation to end 2025 below 2%.
1.75%
Monetary policy rate
The ECB cut its deposit facility rate by 25 basis points to 3% on December 12, its fourth quarter-point reduction in a cutting cycle that began in June 2024. The bank downgraded its inflation projections and noted that its policy decision was based on that new outlook. We expect the ECB to cut the policy rate by 25 basis points at each of its next five meetings, until the July meeting, and then hold it at 1.75%, just below our estimate of the neutral rate. However, we expect the ECB to monitor two near-term inflation risks: the prospect of rising natural-gas prices and a weakening euro.
6.9%
Unemployment rate
With a pronounced slowdown in Germany and broader growth pressures, we foresee the unemployment rate rising to the high-6% range through 2025. Euro area economies have struggled recently with weak productivity growth. Finding a way to rejuvenate productivity is vital to the long-term outlook. Advances in artificial intelligence and a stated desire by governments to reduce red tape are encouraging. In 2025 and 2026, we anticipate a modest recovery in productivity growth and a moderation in the growth of hours worked.
What I’m watching
Weakness in the industrial heart of Europe
The euro area’s biggest economy contracted in 2023 and is likely to do so again in 2024, weighed down by weakness in manufacturing. Germany’s industrial sector has suffered from both higher energy prices, triggered by the war in Ukraine, and a slowdown in external demand, particularly from China. A reversal of those headwinds may be the surest route to the stabilization—and eventually the recovery—of German manufacturing, which will be an important ingredient in a wider euro area recovery.
Shaan Raithatha, CFA
Vanguard Senior Economist
German industrial production
Notes: The chart shows the German Industrial Production Index alongside sub-indexes for energy-intensive and China-exposed production sectors from January 2021 through July 2024. All indexes are adjusted to have a starting value of 100 at the beginning of 2021. Energy-intensive sectors include chemicals, base metals, paper products, and refined petroleum. China-exposed sectors include manufacturing, electrical, and motor vehicles. The weights represent the share of revenue generated by the sectors in relation to the total revenue generated by German industrial production.
Sources: Vanguard calculations, based on German Federal Statistical Office data from Bloomberg.
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