Deutsche Bank Warns of Sharp Eurozone Slowdown Amid Energy Shock

The eurozone could face a significant economic slowdown in 2026 as rising energy costs linked to tensions in the Middle East weigh heavily on growth, inflation and investment activity, according to a recent report from Deutsche Bank Research.

The bank has revised its outlook for the euro area, lowering its 2026 GDP growth forecast to 0.5% from the 1.1% estimate published in its previous global outlook. The downgrade reflects expectations of higher energy prices, softer global demand and tighter financial conditions across the region.

Eurozone Growth Expected to Stall

Deutsche Bank forecasts that the euro area economy will contract by 0.1% on a quarterly basis during the second quarter before stagnating in the third quarter.

The bank expects only modest growth to return during the final months of the year, with a stronger recovery projected for 2027 when economic growth is forecast to reach 1.1%.

According to the report, Europe was already facing structural challenges before the latest energy shock. While domestic demand and German fiscal stimulus had been expected to support short-term growth, long-term concerns surrounding competitiveness and economic independence continued to cloud the outlook.

Four Key Channels Driving the Slowdown

Deutsche Bank identified four primary ways through which the energy shock is affecting the eurozone economy.

First, higher inflation is reducing household purchasing power and limiting consumer spending. Second, increased uncertainty is discouraging business investment. Third, tighter monetary policy is restricting economic activity. Finally, weaker global demand is weighing on exports across the region.

The bank estimates that the euro area’s energy import bill could increase by approximately 1% of GDP during 2026, adding further pressure to economic growth.

Inflation Forecasts Revised Higher

The outlook for inflation has also deteriorated considerably.

Deutsche Bank now expects headline inflation, measured by the Harmonised Index of Consumer Prices (HICP), to average 3.1% in 2026 and 2.5% in 2027.

These figures are substantially higher than the bank’s previous estimates of 1.7% and 1.9%, respectively.

Core inflation is projected to remain elevated at 2.4% in both years, suggesting that underlying price pressures may persist even if energy markets stabilize.

ECB Expected to Continue Tightening

In response to rising inflation risks, Deutsche Bank believes the European Central Bank will continue tightening monetary policy.

The bank forecasts that the ECB will raise its deposit rate by a total of 50 basis points, bringing it to 2.50% by September through two quarter-point increases.

Analysts described the expected policy path as a “measured tightening” approach aimed at balancing inflation control with slowing economic growth.

Germany Faces Weak Growth Despite Fiscal Support

Germany, the eurozone’s largest economy, is expected to grow by just 0.5% in 2026.

The economy is forecast to contract slightly during the second quarter and remain flat in the third quarter before gradually recovering later in the year.

Deutsche Bank believes expansionary fiscal policy will provide the main source of support, with Germany’s budget deficit projected to widen to 4.1% of GDP.

Despite government spending measures, employment is expected to decline by 0.3%.

France and Italy Also See Weaker Outlooks

France and Italy are also expected to experience subdued economic growth.

French GDP is forecast to expand by 0.5% in 2026, while Italy is expected to grow by only 0.4%, making it the weakest performer among the eurozone’s four largest economies.

Italy’s forecast represents a downgrade from the bank’s previous estimate of 0.8%.

Meanwhile, France’s fiscal challenges remain significant, with the budget deficit projected to reach 5.2% of GDP in 2026 and 5.4% in 2027.

Despite the weaker outlook, Italy is expected to continue benefiting from the European Union’s NextGenerationEU recovery program. Approximately €72 billion in available funding is still expected to be deployed after the end of 2025.

UK Economy Expected to Outperform Eurozone

Outside the euro area, the United Kingdom is projected to deliver relatively stronger economic performance.

Deutsche Bank forecasts UK economic growth of 1.0% in 2026, supported by robust momentum from a strong first quarter.

Consumer inflation in Britain is expected to average 3.2%, while the Bank of England is forecast to keep interest rates unchanged at 3.75% through the end of the year.

Risks Remain Skewed to the Downside

Deutsche Bank cautioned that risks to its outlook remain predominantly negative.

In a more severe scenario where the Strait of Hormuz remains closed throughout the summer, the eurozone economy could see growth fall to zero in 2026.

At the same time, inflation could rise to as high as 3.5%, creating an even more challenging environment for consumers, businesses and policymakers.

The report highlights the growing vulnerability of the eurozone economy to energy market disruptions and geopolitical tensions, making developments in the Middle East a key factor for investors to monitor in the months ahead.