A Trump victory could lead to a 1% drop in GDP in the eurozone economy, with Germany, Italy and Finland the hardest hit. Renewed demands on NATO and the potential cessation of US aid to Ukraine could put Europe under severe strain.
The potential re-election of Donald Trump as US president poses a significant threat to the eurozone economy, with economists warning of a potential hit of €150 billion, equivalent to about 1% of the region’s gross domestic product. This impact stems from anticipated negative trade impacts and increased defense spending.
The recent shooting in Butler, Pennsylvania, in which former President Trump was shot in the ear, has boosted his re-election chances. Prediction markets now put Trump’s chances at 71%, a significant increase from previous figures, while his opponent, Joe Biden, has seen a sharp decline, with his chances dropping to 18% from a peak of 45% just two months ago.
Growing trade uncertainty and the economic impact of tariffs
Goldman Sachs economists James Moberly and Sven Jari Stehn have sounded the alarm about the uncertainty surrounding global trade policies, drawing parallels with the volatility seen in 2018 and 2019. They say Trump’s aggressive trade stance could reignite these uncertainties.
“Trump has pledged to impose a blanket 10% tariff on all U.S. imports, including from Europe,” Goldman Sachs said in a recent note.
Economists predict that rising trade policy uncertainty, which has already reduced eurozone industrial output by 2% in 2018-19, could now lead to a 1% drop in eurozone gross domestic product.
Germany will be the most affected, followed by Italy
Germany, Europe’s industrial powerhouse, is expected to bear the brunt of this impact.
“We believe the negative effects of trade policy uncertainty are larger in Germany than in the rest of the euro area, reflecting its greater openness and reliance on industrial activity,” Goldman Sachs said.
The report highlights that Germany’s industrial sector is more vulnerable to trade disruptions than other major eurozone economies such as France.
After Germany, Italy and Finland are expected to be the second and third most affected countries, respectively, due to the relatively greater weight of manufacturing activity in their economies.
According to a Eurostat study published in February 2024, Germany (€157.7 billion), Italy (€67.3 billion) and Ireland (€51.6 billion) were the three largest exporters from the European Union to the United States in 2023.
Germany also maintained the largest trade surplus (85.8 billion euros), followed by Italy (42.1 billion euros).
Defense, security pressures and financial developments
A Trump victory would also likely lead to a renewed pressure on defence and security for Europe. Trump has consistently insisted that NATO members meet their defense spending commitments of 2% of GDP. Currently, EU members spend about 1.75% of GDP on defense, which would require an increase of 0.25% to meet the target.
In addition, Donald Trump has indicated that he may cut off US military aid to Ukraine, which would force European countries to step in. The US currently allocates around €40 billion per year (or 0.25% of EU GDP) to support Ukraine. Therefore, meeting NATO’s 2% of GDP requirement for defence spending and compensating for the potential reduction in US military aid could cost the EU an additional 0.5% of GDP per year.
Other economic shocks related to Trump’s potential re-election include increased U.S. external demand due to tax cuts and the risk of tighter financial conditions from a stronger dollar.
Goldman Sachs, however, estimates that the benefits of a more flexible US fiscal policy would be marginal for the European economy, with a boost of only 0.1% for economic activity.
“A Trump victory in the November election would likely be accompanied by significant changes in financial markets,” Goldman Sachs wrote.
In the aftermath of the 2016 election, long-term yields soared, stock prices soared, and the dollar appreciated significantly. Despite these moves, the euro area Financial Conditions Index (FCI) tightened only modestly, as the weakening euro offset rising interest rates and widening sovereign spreads.
In conclusion, Trump’s potential re-election could have considerable economic implications for Europe, exacerbating trade uncertainties and imposing new financial and defense burdens on the continent.