Europe’s summer of disillusionment

Summer romances are often fleeting – filled with warmth and excitement, only to end abruptly, leaving behind little more than fond memories. That’s how this economic summer felt: it began with optimism around trade deals and progress in Ukraine, but quickly unravelled. Trade uncertainty is back, the war drags on with rising casualties, and Europe is once again grappling with a political crisis.

This summer once again revealed the tectonic shifts in geopolitics. The US-EU trade deal exposed Europe’s vulnerabilities and dependencies, showing that the EU is, sadly, more of a deal-taker than a deal-maker. Add to that the Trump-Putin meeting in Alaska and the Shanghai Cooperation Organisation summit, and the shifting geopolitical landscape is hard to ignore.

Surprisingly, these shifts haven’t yet left visible marks on the global economy. But, as with many structural changes, the impact often takes time to surface. Just because we don’t see the cracks now doesn’t mean they aren’t forming. This is especially true for tariffs. Companies – both American and foreign – can only absorb higher costs for so long. Eventually, those costs will be passed on to consumers or lead to reduced production. In Europe, this is reportedly already happening.

Amid all this, Europe continues to struggle to find its place. The optics aren’t great. Some have even dubbed the past few weeks “Europe’s summer of humiliation.” When it comes to trade, I’m inclined to agree. But in other areas, Europe has tried to step up. Most notably, defence spending has increased significantly, and coordination among European leaders on Ukraine has improved. Still, with growing austerity pressures, it’s fair to ask how long some countries will maintain their defence commitments.

As we mark the first anniversary of the famous Draghi report, Europe’s core weakness is once again laid bare: it’s not the analysis or awareness that’s lacking, but the willingness – and ability – to implement meaningful change. Yes, there have been attempts to cut red tape and launch new initiatives, with flashy names like the “Competitiveness Compass” and the “Clean Industrial Deal.” But beyond German fiscal stimulus and defence efforts, little of substance has changed. Most of Draghi’s recommendations have been watered down, slimmed down, or – predictably – run into resistance at the member state level.

The current political crisis in France, while still a domestic affair, won’t do much to boost Europhoria. And with France facing serious public finance issues and struggling to agree on austerity or reforms, can anyone really imagine Germany signing off on Eurobonds? I certainly can’t.

My relationship with Europe has lasted far longer than one summer, but it’s frustrating to see it unable – or unwilling – to rise to the occasion. The German government seems stuck in a 20th-century economic model, and many others across Europe appear blind to the geopolitical shifts and their economic consequences. It’s as if Europe is clinging to a too-comfortable present.

Or, as Jean-Claude Juncker once said: “All government leaders know what to do. They just don’t know how to get re-elected if they do it.” Need I say more?

• Energy: Strong OPEC+ supply growth and more modest demand growth will leave the oil market in a large surplus in 2026, which should see ICE Brent trade sustainably below $60/bbl next year. The potential for further sanctions and secondary tariffs is a risk to this view.
• United States: The rapid cooling in the jobs market heightens the downside risks for US economic activity in the coming quarters. Inflation is becoming less of an issue with slowing housing costs, falling energy prices and weak wage growth mitigating the impact of tariffs on goods prices. We continue to expect 25bp interest rate cuts at each of the next five Federal Reserve policy meetings, especially with the FOMC membership set to increasingly lean dovish.
• Eurozone: Eurozone growth remains stable, with sentiment holding up but no acceleration expected. US tariffs and French political turmoil may dampen the outlook. A gradual recovery is still forecast for 2026, supported by German fiscal expansion, though risks persist. Inflation rose slightly in August but should fall below 2% short term. A final ECB rate cut now seems unlikely unless recovery stalls or French instability worsens.
• United Kingdom: We still expect a rate cut in November, though the hawkish August decision weakened our conviction. Four of the nine committee members opposed a cut, and officials signalled that the easing cycle may be nearing its end. Inflation, especially food, remains a concern, but services inflation could undershoot forecasts. The jobs market is a downside risk. Data will determine if the next cut comes in November or later, but we expect rates to approach 3% by mid-2026.
• China: After a strong first half of the year, July’s sharper-than-expected slowdown signals deeper economic cooling. Domestic confidence remains subdued, weighing on consumption and investment. Property prices continue to fall across cities. While anti-involution remains a long-term goal, the slowdown may prompt a shift back to stimulus ahead of key policy meetings to support growth.
• Japan: The economy grew more than expected earlier in the year, but exports and construction are set to slow. Private consumption should remain steady due to wage gains and fiscal support. Inflation is expected to ease mainly due to energy subsidy programmes. Markets will watch the LDP leadership race closely, while the Bank of Japan is likely to keep rates unchanged in September as it reviews the US-Japan trade deal and political developments.
• FX: Volatility in FX markets continued to grind lower this summer, despite August’s USD-negative surprises (payroll revisions, Powell’s dovish pivot, Trump’s attempted firing of the FOMC’s Lisa Cook). EUR/USD stalled near 1.16-1.17, capped by dollar resilience and French political noise. US data, Fed policy, and Ukraine developments remain key September drivers. Risks still tilt upward for EUR/USD.
• Market rates: In August, global yield curves steepened as long-term yields rose. US 30Y yields climbed while 2Y fell on rate cut expectations. Germany saw 2Y yields rise slightly, anchored by ECB cut forecasts. 10Y yields are expected to rise further, with more upside in the US than Germany.