In a move that sent shockwaves through the European economic landscape, Germany shattered its long-held fiscal conservatism by announcing it would establish a €500 billion infrastructure fund. This seismic shift, coupled with Europe’s burgeoning household savings, could be the spark that ignites a new era of continental prosperity.
Picture Berlin’s corridors of power, where for decades, the mantra of fiscal restraint echoed. Now, those same halls are buzzing with ambitious plans to overhaul everything from creaking railways to lagging digital networks. Chancellor-in-waiting Friedrich Merz, in a dramatic departure from his party’s traditional stance, has not just opened the purse strings – he has tossed the entire purse into the ring.
This isn’t just about fixing potholes and upgrading broadband. By amending the constitution to exempt defence spending from borrowing limits, Germany is signalling a new era of geopolitical assertiveness. It’s as if the sleeping giant of Europe has not only awakened but decided to hit the gym and bulk up.
The reaction in financial markets was swift and decisive. In the immediate aftermath, the DAX Index leapt skywards, climbing 3.8% in a single bound. Across Europe, the Stoxx 600 flirted with record highs. Defence and construction stocks soared, with companies like Rheinmetall seeing their value rocket upwards almost faster than their own missiles.
But this isn’t just a German story. The ripples of this fiscal tsunami are washing over the entire European Union. In Brussels, policymakers are suddenly dusting off long-shelved plans for EU fiscal reform, eyeing Germany’s bold move with a mixture of excitement and envy.
Meanwhile, in living rooms and bank vaults across Europe, a different kind of economic powder keg sits primed. European households, having squirrelled away savings at record rates, are sitting on a mountain of unspent cash. The eurozone savings rate hit a staggering 15.7% in the second quarter of 2024, as if consumers had collectively decided to prepare for an economic winter that never came.
Imagine, without going too far down the hypothetical rabbit hole, the economic potential if this dam of savings were to burst just as Germany’s stimulus flood hits. It’s a scenario that has economists salivating and central bankers nervously adjusting their ties. The combination could be the economic growth that propels Europe out of its recent doldrums.
But let’s not get ahead of ourselves – uncertainties abound and we are not celebrating Europe’s happy ending just yet. Germany’s ambitious plans face a gauntlet of bureaucratic hurdles and potential political backlash. Implementing such a massive program is like trying to turn a super-tanker – it takes time, skill, and a lot of patience. Moreover, the spectre of inflation looms over Europe’s potential economic uprise. As government spending ramps up and consumers potentially unleash their savings, prices could start to force their way higher just as easily.
The success of this grand endeavour will depend on a delicate balancing act. Can Germany modernise its infrastructure and boost its military without overheating inflation? Will other European nations follow suit or watch from the sidelines? And will European consumers, long accustomed to keeping their wallets closed, decide it’s time to splash the cash?
As Europe stands at this economic crossroads, the world watches with bated breath. Germany’s €500 billion gamble could either be the catalyst that transforms the continent’s economic fortunes or it could be a costly misadventure that future economists will study as a cautionary tale. One thing is certain, however: the next few years in Europe will be anything but boring. The stage is set for a potentially transformative period in the continent’s economic history.
A LOOK AT THE MARKETS
Once again, it has been an interesting week as we continue to expect the unexpected under the Trump administration. The economic action that many countries are taking to protect their economies from Trump’s policies and also to push back against him will also become more pivotal. Germany’s fiscal stimulus announcement is a case in point.
Some of the key market drivers this week:
- President Trump continues his trade tariff exploration to get nations to cede to his demands.
- Risk-off movement in the United States (US), causing not only a selloff in equities but also a significant decline in the greenback.
- Economic data: S&P Global US Purchasing Managers’ Index, durable goods orders as well as ISM Services Index numbers beat expectations. Jobless claims once again came in lower than expected. Our attention now shifts to today’s Non-Farm Payrolls report, due later in the afternoon.
- European Central Bank (ECB) cut interest rates in line with expectations.
S&P continues to take strain
The US S&P 500 continued its decline, closing 1.78% weaker on Thursday, to give a drop of 4.8% over the last month. This trend reflects the uncertainty and risk-off environment we are currently witnessing in the US on the back of Trump’s policies. Meanwhile, Germany’s DAX Index continued its ascent as the EU announced its reforms to stimulate the region’s growth. The DAX ended Thursday’s session 1.47% higher while gaining just short of 8% over the past month. The United Kingdom’s (UK’s) FTSE 100 traded mostly sideways on Thursday while facing a 0.65% monthly loss.
German Bund yields soar
German bunds experienced their largest two-day selloff since the 1970’s amid the announcement of fiscal stimulus from the German government. We also saw a bounce in US bond yields yesterday, with US 10-year yields edging higher on a weekly basis. However, on a monthly basis, bond yields in the US continue their decline, with the 10-year yield falling by 4.2% over the past month and two-year yields shedding 6.6%.
Oil facing turmoil, while gold maintains its footing
Gold prices continued to gain, trading 1.9% higher for the week, although sideways early this morning, with all eyes on today’s US Non-Farm Payrolls report. Uncertainty around inflation, trade tensions, a weaker dollar and the US economy starting to show signs of slowing, continues to support gold prices.
Conversely, oil is limping along, with Brent shedding 5.3% over the past week, its biggest weekly fall since October. However, it is trading 0.5% up this morning. Market uncertainty, tariffs and an increase in supply from the expanded Organisation of Petroleum Exporting Countries, OPEC +, weighed on the oil price. Brent is down 16.5% over the past year and 7.2% year to date.
The fall of the mighty dollar?
The US dollar has faced significant pressure over the past week, with the US Dollar Index shedding 3.3% to trade at 103.9 this morning. The escalating trade war and signs of cracks in the US economy are weighing on the greenback. Today, the dollar will be taking its cues from the Non-Farm Payrolls report.
The euro surged 4% against the dollar over the past week to trade at $1.08/€. The currency is being supported by a weak dollar, the announcement of robust economic stimulus plans coming from Germany, and strategies around the EU to support economic growth. The pound also gained against the dollar and is up 2.6% for the week.
Please note all data is as of the time of writing and might differ upon distribution.
Key indicators:
GBP/USD: 1.2880
GBP/EUR: 1.1933
GBP/ZAR: 23.38
GOLD: $2,916
BRENT CRUDE: $66
Sources: Sources: Bloomberg, Reuters/Refinitiv and Trading View.
Written by Citadel Advisory Partner and Citadel Global Director, Bianca Botes.
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