The EU economy grew stronger than expected in recent quarters and all member states are set to return to growth in 2025. Modest but steady economic growth is expected to continue in 2026 and 2027, supported by a robust labour market, decreasing inflation and improving financing conditions. Although the conclusion of the EU-US trade deal in the summer reduced trade policy uncertainty, weaker global growth and persistent geopolitical tensions cloud the outlook. As this column argues, the proximity to Russia’s protracted war of aggression against Ukraine has been weighing on the economic performance of the EU, especially in member states closest to the conflict, while necessitating a unified strengthening of EU defence capabilities and financial support to Ukraine.
Economic growth in the EU has been stronger than anticipated in the first nine months of the year, prompting an upward revision of real GDP projections for 2025. For the first time since 2021, the economies of all member states are expected to grow. Initially driven by frontloading of exports to the US in anticipation of higher tariffs, the steady – though modest – growth observed so far underscores the underlying resilience of the EU economy and its ability to navigate unprecedented shocks. Survey data and PMIs indicate continued growth momentum in the coming quarters.
Real GDP in the EU is expected to grow at around 1.4% in both 2025 and 2026, rising slightly to 1.5% in 2027, with the euro area broadly mirroring this trend. Nonetheless, a gradual slowdown in the growth of the working-age population is expected to constrain potential growth over the coming years.
Figure 1 Real GDP growth and contributions, EU
Economic growth is set to be driven mainly by domestic demand, as the domestic constraints that had weighed on activity in previous years are gradually easing. Inflation is moving closer to the ECB’s target, supported by low imported inflation and slowing nominal wage growth; financial conditions have improved; and job creation and real wage growth remain robust, supporting households and firms. These factors, together with healthy balance sheets in the private sector, create a more stable environment for consumption and investment.
The Recovery and Resilience Facility (RRF) and other EU funds continue to support productive investment, cushioning the dampening impact of fiscal restraint by several national budgets in 2025-26. Member states are updating their Recovery and Resilience Plans to facilitate effective deployment of remaining funds before the August 2026 deadline. In 2027, the waning direct fiscal impulse of the RRF is expected to be partly offset by increased use of cohesion policy funds, also thanks to the greater flexibility provided by the recently concluded mid-term review of cohesion policy.
Figure 2 EU funds and public capital expenditure in the EU
The EU economy continues to operate within a difficult and rapidly shifting external environment. The imposition of high US tariffs – now at their highest levels in nearly a century – is reshaping global trade patterns. Last summer’s EU-US trade deal 1 established a 15% headline tariff rate on US imports from the EU, with exemptions for sectors such as pharmaceuticals and semiconductors, but higher tariffs on steel and aluminium. Although the EU faces lower effective trade-weighted tariff rates (ETR) than many other major economies, the global tariff escalation weighs on export market growth, clouding the outlook for EU merchandise exports. 2 Meanwhile, import growth is set to be supported by trade diversion as China and other countries redirect their exports away from the US.
Figure 3 Effective tariff rates on major US trading partners on 1 November 2025 public capital expenditure in the EU
Despite the recently concluded trade deal between the EU and the US, the global trade outlook is characterised by elevated uncertainty, with tariff regimes subject to change, trade relations with China still unsettled, and some US tariffs still under legal review. Beyond tariffs, non-tariff barriers are also intensifying. China’s dominance in critical minerals and rare earths, combined with recent export controls, has raised risks for strategic EU sectors such as automotive, defence, energy technology, and AI infrastructure. Although the macroeconomic impact remains contained based on available data, supply chain vulnerabilities have become more prominent and could worsen if further restrictions are implemented.
Figure 4 Trade policy uncertainty
Financial markets remain sensitive to shifts in global policy direction, concerns about US fiscal sustainability, and the risk of repricing in equity markets, namely in the US technology sector. Climate-related shocks add another source of downside risk. Additional challenges arise from geopolitical tensions, notably including Russia’s ongoing war of aggression against Ukraine.
Russia’s full-scale invasion of Ukraine in February 2022 created substantial economic headwinds for the EU, with the burden falling most heavily on Member States geographically closest to the conflict. This becomes particularly apparent after accounting for their higher average growth rates over the preceding period 2013-19.
Figure 5 Real GDP growth in member states between 2019-2024
Figure 6 Deviation from the 2013-2019 growth trend in 2024
Empirical studies have identified several channels that can explain why the economic impact intensified with proximity (Federle et al. 2024a, 2024b, European Commission 2022, EPRS 2024, Cobion et al. 2025, Capoani et al. 2024, Beckmann et al. 2023, Gluszak et al. 2025). Countries near the war zone tended to have tighter trade links with Russia and Ukraine, making them more exposed to sanctions and supply disruptions. Their higher energy intensity and dependence on Russian gas and oil amplified the shock from energy price spikes. Proximity also increased financial risk premia – especially outside the euro area – raising borrowing costs. Heightened geopolitical uncertainty further affected investment behaviour and encouraged precautionary saving. At the same time, bordering countries absorbed large inflows of displaced persons, which boosted consumption and labour supply, while also increasing government spending needs.
A comparison between the European Commission Autumn 2021 Forecast (the last pre-war projection) and actual outcomes corroborates these findings: GDP growth in 2022–23 underperformed the Autumn 2021 projections by 1.9 percentage points per year, and bordering economies recorded even larger shortfalls. Nearly all demand components – consumption, investment, exports, imports – grew more slowly than expected, although imports generally fell more sharply than exports. Inflation also displayed strong proximity effects: While EU-wide HICP inflation exceeded its pre-war forecast by 5.9 percentage points, member states closer to the conflict experienced significantly larger overshoots: 8.1 percentage points (+2.2 percentage points above the EU average) for the ‘closer’ group, and 9.6 percentage points (+3.7 percentage points above the EU average) for border countries. Energy and food inflation showed similar gradients.
Regression analysis on EU data from 2002–24 confirms robust proximity effects for trade, inflation, energy dependency, financial conditions, labour markets, and government spending. 4 Countries closer to the war experienced shrinking trade, deteriorating current-account balances, higher energy-price inflation, rising bond yields, and weaker employment growth. Fiscal data show increased public expenditure – particularly defence and investment – paired with worsening budget balances.
Based on this econometric model, proximity to the war reduced GDP growth relative to the EU average by roughly 1.1–1.3 percentage points in those countries that are closer than the average member state to the Ukraine and Russia, and by 1.4–1.8 percentage points in member states that border Ukraine or Russia. The difference in annual growth between the most distant and closest Member States is nearly 3 percentage points. 5 However, the effect lessens slightly when 2024 data are included. 6
Finally, once key transmission channels – energy intensity, prices, labour, sentiment, interest rates, and fiscal variables – are incorporated into the panel regression for GDP growth, the direct impact of proximity becomes statistically insignificant. This indicates that the war’s economic cost is largely mediated through these identifiable channels rather than the geographical proximity itself.
Altogether, while the EU is expected to maintain a resilient growth profile, the external environment continues to pose significant challenges. The analysis presented in this column suggests that Russia’s war of aggression against Ukraine is materially impacting the EU economy, particularly affecting Member States along its eastern border. The implications of the war extend beyond economic concerns, necessitating a unified strengthening of EU defence capabilities and financial support to Ukraine. The buildup of defence capabilities weighs on public finances: as defence expenditure in the EU rises by 0.5% of GDP between 2024 and 2027, 7 the general government deficit is projected to edge up from 3.1% to 3.4% of GDP, while the public debt ratio is set to increase from 82% to 84.5%.
The challenging external environment means that Europe must look for domestic drivers to fuel growth. All this underscores the importance of unlocking Europe’s full growth potential. This means advancing on the competitiveness agenda – including completing the Single Market and boosting innovation – and on the Savings and Investment Union.
Source : VOXeu
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