FRANKFURT (Reuters) -A global trade war, financial market volatility and high debt levels are the three key risks facing the euro zone economy, ECB Vice President Luis de Guindos said on Thursday, previewing the bank’s upcoming report on financial stability.
The euro zone economy appears to be holding up well despite a raft of U.S. tariffs that set off financial market volatility last month but the bloc is still facing trade barriers that could hamper growth given its large reliance on trade.
The European Central Bank’s biannual Financial Stability Review, due on May 21, will also focus on how the global upheaval since U.S. President Donald Trump took office could hurt the 20-nation euro zone, de Guindos said.
“The risks to growth resulting from trade tensions, combined with higher defence spending, may limit the fiscal space available to shield the economy from adverse shocks, address structural challenges associated with climate change, digitalisation and low productivity,” he said in a speech.
While equity markets sold off after the tariffs were announced in early April, they have mostly rebounded and valuations may be out of sync with potential risks.
“Like with equity market risk premia, credit spreads remain compressed and appear to be out of sync with the very high levels of geopolitical and policy uncertainty,” de Guindos said.
“There is a risk that investors may be underestimating and underpricing the likelihood and impact of adverse scenarios.”
Trade tensions will feed through to growth via lower confidence and even if there is a political resolution, firms and households are likely to curb spending as a precaution, de Guindos added.
Governments are likely to boost spending both to prop up growth and meet increased defence commitments, but debt levels are already high and debt service costs could strain public finances, even before states address other structural issues.
(Reporting by Balazs KoranyiEditing by Alex Richardson and Gareth Jones)
