Redrawn economic landscape of the eurozone due to Germany's financial stimulus package

In a historic move, Germany's new Chancellor, Friedrich Merz, has presented a comprehensive fiscal policy plan aimed at amending the Basic Law for implementation in Germany. This bold step, effective from May 6, 2025, is set to have a profound impact on the Eurozone's economy.

Germany's fiscal plan, which includes an €500 billion infrastructure investment fund and a €100 billion climate change fund, is already showing positive results. Sovereign spreads are narrowing, potentially boosting growth across the Eurozone.

The European Central Bank (ECB) has responded to Germany's fiscal expansion by adjusting its monetary policy expectations. The ECB is expected to cut rates by 23 basis points in both April and June, reaching a 2% deposit rate. However, market scepticism remains about the April rate cut, with only a 50% chance currently priced in.

Inflationary pressure is expected to remain marginal or zero with sustained GDP growth in Germany. Term premiums are expected to increase further, driven by a steeper EUR curve, with 10-year premiums already up by 40 basis points since February.

The success of Germany's fiscal policy hinges on the country's ability to maintain a stable deficit. To ensure this, the German government has introduced the principle of additionality, requiring at least 10% of the budget to be allocated to investment before accessing the fund for new projects.

The energy sector remains crucial for Europe's economic outlook. The ongoing Russia-Ukraine war has significantly influenced energy price formation for 2025, with European gas prices expected to compete with Asian demand, suggesting a price level of around €45 per megawatt-hour for 2025. Brent crude is expected to trade around $70 per barrel in the latter half of 2025 due to strong supply from OPEC and relatively weak demand.

The US's imposed tariffs on aluminium, steel, and related products on multiple trading partners, including the EU, could potentially lead to GDP downturns due to ongoing trade hostilities. A baseline prediction for weighted US tariffs is 10%. The EU's countermeasures on US imports are expected to impact over €25 billion of goods, affecting 1% of US goods entering the EU.

Bond markets have reacted strongly to Germany's announcement, with the 10-year Bund yield rising. The 10-year Bund yield is forecast to remain between 2.7% and 2.9% until Germany's fiscal plan is implemented, potentially reaching 3% depending on new economic data and the plan's execution.

At a pivotal moment for the Eurozone, Germany's bold fiscal policy is reshaping expectations for growth and interest rates. The Eurozone stands at a crossroads, with the potential for increased growth and stability on the horizon. The impact of Germany's fiscal stimulus will be closely watched by economists and policymakers alike.