The US–Europe relations prevailing since World War II are shifting.
For over a century, the United States has been a “Europe-first” power, intervening in two World Wars, countering the Soviet Union, and serving as Europe’s security guarantor. However, the Trump administration has laid the groundwork for a new dynamic – one in which Europe must take on a far greater share of its own defence and reconstruction costs, particularly in the wake of the war in Ukraine.
To achieve greater independence from the United States, European defence spending is expected to rise to 2.5–3% of GDP annually, amounting to EUR 500–700 billion over the next decade. This proposed historic fiscal stimulus echoes through the bond market with German 10-year bond yields experiencing their sharpest widening since the fall of the Berlin Wall and raising the prospect of 3.5% yields.
However, a pro-growth German government offers hope for an economic rebound, particularly amid expectations of a resolution to the Ukraine–Russia conflict. This structural shift is set to further strengthen the euro, as foreign exchange markets increasingly price in the return of expansionary fiscal policy in Europe, alongside the prospect of European bond yields returning to pre-crisis levels.
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