The Conference Board Economic Forecast for the Euro Area Economy

 Middle East Update­ (April 7-13). After multiple rapid shifts in US messaging, a tentative two-week ceasefire involving the US, Iran and Israel was announced on April 7, conditional on reopening the Strait of Hormuz. Markets initially welcomed the announcement, with oil and gas prices falling and equities rebounding, but that relief faded by April 9 as Israeli strikes on Lebanon casted doubts over the durability of the truce and shipping through Hormuz remained severely constrained. Talks held in Islamabad on April 12 between Iran and the US ended without agreement, prompting the US to announce restrictions on all maritime traffic entering and leaving Iranian ports and intentions to allow non?Iranian commercial passage through the Strait of Hormuz. As a result, oil and gas prices moved higher on April 13 (with Brent oil prices above US$100 per barrel and Dutch TTF gas above 45 euros per MWh), signaling an increase in the risk of a prolonged disruption to global energy markets. The chances of a quick resolution are now lower than at the end of last week, with market sentiment returning to pre-ceasefire levels. For the euro area (EA), as a net energy importer, prolonged energy disruptions will continue to put additional pressure on inflation and growth in the near term.

Early indicators point to a slowdown in EA growth. Business sentiment has deteriorated, with the European Commission’s Economic Sentiment Indicator falling to a seven-month low of 96.6 in March, while the composite PMI indicator dropped to 50.6, its lowest level in nine months, signaling a loss of business momentum. Consumers reacted even more sharply, with confidence declining to -16.3, the weakest reading since late 2023, reflecting rising concerns about the economic outlook over the next year. The implications of the shock are expected to transmit through multiple channels. The EA manufacturing sector is likely to bear the brunt, as higher-for-longer energy prices raise input costs in a sector already on a downward trajectory, with industrial output facing both cyclical pressures and structural headwinds. Elevated uncertainty is also set to weigh on private investment more broadly, as firms shift focus away from productivity-enhancing projects towards risk management and contingency planning. At the same time, private consumption, expected to drive the bulk of the growth recovery of the euro area in 2026, is now likely to provide less support, as higher inflation and slowing nominal wage growth erode real incomes and reduce the scope for discretionary spending. Trade, following an already turbulent 2025 marked by higher US tariffs and elevated trade policy uncertainty, is also expected to remain under pressure from US trade policies and stronger competitive pressure from China. Survey evidence, including our own, suggests that firms increasingly intend to pass on part of the higher costs to consumers, which could further dampen demand. The impact is likely to be uneven across countries, with Germany and Italy more exposed to the latest shock given their larger manufacturing base and higher reliance on fossil fuels. Taken together, these developments have prompted us to revise down our EA outlook. We now see annual growth coming in at just 1.0% in 2026 and 1.1% in 2027, down from the 1.3% and 1.4% we projected a month ago, marking a shift away from the rebound previously anticipated toward weaker growth in 2026 and a more subdued recovery in 2027.

Inflation increases to 2.5% in March as energy prices soar. According to Eurostat’s flash estimate, annual headline inflation in the EA rose to 2.5% in March, up from 1.9% in February and above the ECB’s 2% medium-term objective. Higher oil and gas prices were the sole driver of the increase in overall price pressures across the bloc. Year-on-year energy inflation rose to 4.9%, after 12 consecutive months of decline. By contrast, annual inflation in food, goods and services eased moderately from the previous month. Core inflation, which strips out volatile energy and food prices, also declined from 2.4% to 2.3%. Looking ahead, inflation pressures are likely to intensify in the coming months, although the duration of this increase remains highly dependent on how quickly tensions in the Middle East might ease. If the conflict ends before summer and physical flows through Hormuz start to recover, European oil and gas prices should move back towards their pre-war levels faster. However, if the conflict drags on or intensifies further, inflation pressures may take longer to fade and could begin to spill over into other components of the inflation basket. In our baseline scenario, oil and gas prices remain close to $100/barrel and €50/MWh benchmarks throughout Q2, with the conflict easing before summer. Under this assumption, headline inflation would still rise to 2.9% in 2026 before falling to 2.4% in 2027. Assuming there are no meaningful second-round effects, and the shock remains largely confined to energy, core inflation is projected at 2.2% and 2.1% in 2026 and 2027, respectively.

ECB policy shifts toward caution. As geopolitical tensions in the Middle East grow, the ECB has adopted a more cautious stance. At its March 19 meeting, the Governing Council left its main policy rate at 2.00%, but the tone was clearly more cautious than before. President Lagarde acknowledged that the escalation in the Middle East has made the outlook “significantly more uncertain,” introducing upside risks to inflation through higher energy prices while also weighing on growth. This leaves the ECB facing a complex trade-off. Higher oil and gas prices are already pushing inflation above target in 2026, but the policy response will depend on whether the shock spreads beyond energy into wages and services. Absent clearer second-round effects, the case for the aggressive tightening priced in by markets (anywhere from two and up to four hikes in 2026) remains weak. The EA’s 2026 backdrop is less inflationary than in 2022 given oil and gas prices remain below their 2022-peaks, wage pressures are easing, and supply disruptions are, for now, more contained. Under our baseline inflation scenario, we expect the ECB to deliver a single rate hike in 2026, driven by a supply-side inflation shock that does not become broad-based, mostly as a pre-cautionary measure to contain any spillovers into core inflation and underlying price pressures. The April 30^th meeting is unlikely to offer decisive guidance beyond reiterating the views from March given that limited data will be available. However, the June meeting will likely be more critical, as policymakers will have more information and will be better equipped to assess whether inflation pressures are broadening and economic activity is falling more than expected.

The EA labor market remains resilient, but risks are increasing. The unemployment rate edged up to 6.2% in February from 6.1% in January, with the number of unemployed rising by 93 thousand persons month on month. The forward-looking picture has also softened. The European Commission’s Employment Expectations indicator for the EA fell to 96.4 in March, reaching its lowest point since March 2021, and moving further below its long-run average as business sentiment deteriorated. We still expect the labor market to hold up throughout 2026-2027, but unemployment may now rise slightly more than we assumed as weaker margins and higher uncertainty curb hiring. The risk is especially relevant for industry, where manufacturing employment was already declining before the latest shock (down around 1% from Q2 2024), suggesting energy- and labor-intensive segments could come under greater pressure in the months ahead.

On the political front, Hungary’s election result provides a modest positive development for the European Union’s policy outlook, by increasing EU institutions’ unity and decreasing dissent:

Magyar’s election win gives EU policy some breathing room. On April 12, Péter Magyar’s Tisza party, defeated Viktor Orbán’s Fidesz, ending his 16-year ruling and opening the door to a reset in Budapest’s relations with Brussels. Under Orban’s leadership, Hungary had turned into a systematic veto player, diluting the EU’s position on critical issues, especially on Russia and Ukraine. A less confrontational stance from Budapest would reduce the risk of delays or vetoes and could improve coordination among member states on key common EU objectives. While the direct economic effects are likely to be limited, the result could modestly strengthen Europe’s institutional coherence, particularly in a time of increased geopolitical risks.