EU cuts growth forecasts as Iran war drives up inflation

The Iran war will stifle growth and drive up inflation in the Eurozone this year, the European Commission has said, as it slashed its GDP forecasts and warned the conflict would add further pressure to overburdened national budgets.

The EU executive now expects growth in the 21-country currency area to be just 0.9 per cent this year, down from 1.4 per cent in 2025 and a previous estimate published in November of 1.2 per cent. It also reduced its GDP growth forecast for 2027 to 1.2 per cent, from 1.4 per cent previously.

Inflation in the Eurozone is forecast to jump to 3 per cent this year, the Commission said, up from 2.1 per cent last year and much higher than its earlier expectation of 1.9 per cent. That would also put price growth well above the European Central Bank’s medium-term 2 per cent target.

The US-Israeli war against Iran has caused oil and gas prices to surge and disrupted global supply chains for other commodities, pushing up costs for European industries and households and forcing national governments to spend on measures to shield their economies.

That has compounded the bloc’s longstanding difficulties in resurrecting moribund economic growth and improving its overall competitiveness, as it struggles with US trade tariffs and pressure from Chinese manufacturers.

“The conflict in the Middle East has triggered a major energy shock, further testing Europe as it navigates an already volatile geopolitical and trade environment,” said EU economy commissioner Valdis Dombrovskis, adding that the forecast was based on current market expectations for oil and gas prices this year.

Dombrovskis warned that Brussels had also war-gamed a more “adverse scenario” for energy prices, given there was “no obvious solution in sight, at least in the short term, for resolving the conflict in the Middle East [and] for unblocking the Strait of Hormuz”.

This “worst-case scenario . . . would likely roughly halve” the Commission’s updated growth forecast, Dombrovskis said, and push inflation higher.

The Commission’s latest forecasts are broadly in line with the baseline scenario from the ECB, which said in March that it expected growth in the single currency area this year to be 0.9 per cent and 1.3 per cent in 2027. However, the ECB also set out a more adverse scenario where oil prices peak at $119 per barrel and growth could reduce to 0.6 per cent this year.

The Commission on Thursday slashed growth expectations across the bloc. Germany, the Eurozone’s biggest economy, is expected to grow just 0.6 per cent this year — down from the November forecast of 1.2 per cent — while Italy’s prospects were cut to 0.5 per cent from 0.8 per cent previously.

France’s growth expectation was shaved down to 0.8 per cent from 0.9 per cent previously. Ireland is forecast to be the only EU economy to shrink this year, with a 1.2 per cent contraction after previously being forecast to report marginal growth.

The Iran war has triggered the EU’s third economic shock in six years following the Covid-19 pandemic and Russia’s 2022 full-scale invasion of Ukraine — both of which led to national governments splurging on economic support measures.

The Commission said the Eurozone’s debt-to-GDP ratio was set to rise to 90.2 per cent this year from 88.7 per cent in 2025. In 2027 it would rise again to 91.2 per cent.

Italy was expected to overtake Greece as the Eurozone’s most indebted country in 2027, Brussels said, with a debt-to-GDP ratio of 139.2 per cent, with Greece’s reducing to 134.4 per cent.

Dombrovskis said the EU “must learn from past crises by keeping fiscal support temporary and targeted” and avoid “spending lots of money for very little back”, echoing warnings from other institutions including the IMF that governments must not over-spend on measures to support consumers.

The Commission’s forecasts were published as closely watched survey data suggested business activity in France, the Eurozone’s second-largest economy, fell to a 66-month low in May.

The flash Purchasing Managers’ index for the overall economy dropped to 43.5 points, down from 47.6 in April and well below the threshold of 50 that separates growth from contraction.

S&P Global economist Joe Hayes warned that the “dire set of numbers” pointed to “materially” higher “recession risks” in France.