The Eurozone economy shows "immunity" to the Iran conflict! GDP growth in the second quarter far exceeded expectations, and analysts have significantly raised their full-year forecast to 0.8%.

Against the backdrop of the ongoing impact of the Iran war on the European energy market, the Eurozone economy has delivered results that exceed most expectations. The latest analyst survey shows that the growth forecast for the 21 Eurozone countries in 2026 has been significantly raised from 0.5% in July to 0.8%. This revision almost entirely reflects the unexpectedly strong economic performance in the second quarterwhere GDP grew by 0.4% quarter-on-quarter, double the 0.2% previously predicted by economists. Even more surprisingly, this resilience was achieved amid multiple headwinds: surging energy prices triggered by the Iran war, massive cost-cutting and layoffs among European car manufacturers, rampant wildfires, and historically low water levels in key waterways such as the Rhine and Danube rivers. The Eurozone is demonstrating, through data, that its "immunity" to geopolitical shocks is far greater than previously expected by the market. Second Quarter "Surprise": A Dual Drive by AI Investment and Consumer Confidence Data released on July 30 by Eurostat showed that the Eurozone's GDP grew by 0.4% quarter-on-quarter in the second quarter, with year-on-year growth accelerating to 1.0%, far surpassing the market expectation of 0.5%. This is one of the Eurozone's strongest quarterly growths since 2023. The unexpectedly robust performance is driven by three main forces: First, the wave of AI investment. European companies are significantly increasing their investments in AI-related intangible assets, following global trends. The European Central Bank emphasized in an economic bulletin released on August 5 that corporate investment is shifting from tangible assets to intangible ones like AI, "this structural shift may gradually act as a stabilizer for the investment cycle." The European Central Bank estimates that uncertainty has dragged down Eurozone economic growth by 0.4 percentage points between 2025 and 2026, but the resilience of AI investment is alleviating this drag. Second, stronger-than-expected consumer confidence. Although consumer confidence in the Eurozone plummeted shortly after the outbreak of the Iran war, it has since rebounded. The performance of household consumption in the second quarter was much better than gloomier forecasts. Third, Germany's fiscal expansion is beginning to take effect. The government led by German Chancellor Friedrich Merz has reached a comprehensive reform plan aimed at enhancing medium- and long-term economic potential. Germany, France, and Italy each achieved a quarter-on-quarter growth of 0.2% in the second quarter, while Spain continued to lead the Eurozone with a growth of 0.7%. July PMI Confirms Recovery Momentum: Services Return to Expansion, Germany Emerges from Low Point The strong momentum from the second quarter continued into July. The Eurozone composite Purchasing Managers' Index (PMI) published by S&P Global on August 5 rose from 50.0 in June to 52.0, reaching an eight-month high, marking the first return to the expansion zone since March. Key details indicate that the recovery is becoming more widespread: the services PMI surged to a five-month high of 51.7, marking the first expansion since March; Germany recorded its first growth in private sector output since March; growth accelerated in Italy and Spain, with Spain achieving its best performance in over a year and a half; employment stabilized in July, ending six consecutive months of layoffs; business confidence hit a five-month high. As business confidence rises, input cost inflation has dropped to a five-month low, and output price inflation has reached its lowest level since Marchthis provides the European Central Bank with some breathing space between controlling inflation and supporting growth. Andrew Kenningham, an economist at Capital Economics, stated, "Looking ahead, we believe the Eurozone will continue to cope well with the energy shock caused by the situation in Iran and expect quarterly GDP growth to be around 0.25% over the next year." He added that if energy prices remain high, the economy still faces downside risks, but these risks may be smaller than generally expected. Germany: Defense Spending Becomes an "Economic Stabilizer" As the largest economy in the Eurozone, Germany's recovery prospects are particularly critical. Another survey indicates that the surge in defense spending in Germany will help drive overall economic growth from 0.8% this year to 1.2% in 2028, marking an upward adjustment from last month's forecast of 0.6%. The government led by Chancellor Friedrich Merz has reached a comprehensive reform plan aimed at enhancing medium- and long-term economic potential. At the core of this plan is a modification of the "debt brake" clause in the German constitution, excluding defense spending from this constraint, effectively allowing Germany to incur unlimited debt for military purposes. According to the German Ministry of Finance, Germany will borrow over 800 billion by 2030, breaking decades of fiscal constraints. The government plans to raise over 200 billion from the market in just 2027. The analysis from the German central bank is more specific: government spending, particularly defense spending, is expected to cumulatively boost economic growth by 1.3 percentage points by 2028. The German central bank predicts adjusted GDP growth of 0.5% in 2026, 0.8% in 2027, and 1.4% in 2028. The Ifo Institute in Germany maintains its growth forecast for 2026 at 0.8%. However, the German economy still faces significant headwinds. The Ifo Institute warns that even if a preliminary ceasefire agreement is reached between the U.S. and Iran, energy prices are expected to remain high. Expansionary government fiscal spending is anticipated to boost economic growth by 0.5 percentage points in both 2026 and 2027, but the drag effect of energy price shocks is expected to reach 0.4 percentage points. Under dual constraints of an aging population and sluggish productivity growth, the Ifo warns that by the end of this decade, Germany's potential growth rate may fall to just 0.1%. Risks Remain: Low Water Levels in the Rhine and Inflation Rebound Despite the improved growth outlook, the Eurozone economy still faces multiple structural risks. The Rhine shipping crisis is currently the most urgent supply chain threat. As the "artery of transport in Europe," the Rhine carries about 80% of Germany's inland shipping volume. Due to the impact of high temperatures and drought, the current vessel loading capacity is only about one-third of normal levels. The decline in shipping volume has led to a 50% to 60% increase in the number of ships arriving at ports in recent weeks. This month, the shipping costs from Germanys industrial city of Karlsruhe to ports like Rotterdam in the Netherlands have reached 200 per ton for refined oil, breaking the previous record of 130 per ton set in August 2022. On August 5, the water level in the critical section of the Rhine at Kaub broke the historical low record set in 2018. The Rhine accounts for a significant portion of Germanys inland freight volume, with many chemical, steel, refining, and energy companies located along its banks. The cost of transporting oil products from Rotterdam to Karlsruhe via inland oil tankers has soared from approximately 45 per ton at the end of June to between 150 and 160 per ton. The Kiel Institute for the World Economy estimates that low water levels may cost Germany between 1 billion and 2 billion in economic losses in the third quarter. UK media has pointed out that low water levels in the Rhine not only compel some German manufacturing companies to cut output but may also impact the economic growth prospects of Germany and other European countries this year. Germany's chemical company Covestro stated that shipping restrictions on the Rhine have already affected supply and production in some plants. Nearly 75% of its raw materials and over 30% of chemical products rely on transport via the Rhine. Cologne-based chemical company Lanxess described the current situation as "very severe." ING economist Carsten Brzeski warned that the drought in 2018 had dragged down German economic growth by about 0.3 percentage points, and the economic impact of this years drought could be even more severe. Inflation pressure cannot be ignored either. The Eurozone's inflation rate rose from 2.8% in June to 2.9% in July. A Reuters survey predicts that the European Central Bank will raise the key deposit rate in September. The ongoing conflicts in the Middle East also imply that energy prices may surge again. The Ifo Institute has raised its inflation forecast for 2026 to 2.9% and to 2.7% for 2027. The European Central Bank expects that uncertainty will continue to weigh down economic activity for the remainder of the year.