The question remains, however, to what extent these plans will be able to convince investors. It is precisely the credibility of budgetary strategies that will determine whether countries maintain favorable financing conditions or will have to accept higher risk premiums. The most visible example today is France, where the combination of high debt and political uncertainty is putting pressure on debt servicing costs, which in turn increases volatility in the government bond market.
As for the Pandemic Emergency Purchase Programme (PEPP), the European Central Bank ended all related reinvestments in December 2024. This means that the purchase of private and public sector securities must be carried out by investors without the direct support of the central bank. In addition, the spread between Italian and German government bond yields fell below the threshold of 100 basis points at the beginning of the year. This occurred following the creation of a €500 billion fund aimed at financing the military and supporting the economy.
On the other hand, the banking sector is entering this environment with a relatively strong capital position. The average CET1 ratio stabilized above 16 percent in the first quarter of 2025, with the latest stress tests showing that banks are more resilient than in 2023. The problem, however, is greater sensitivity to market movements, as banks hold a larger volume of government bonds – estimated at €3.9 trillion. Even though portfolios are diversified, a sharp increase in yields can lead to unrealized losses, which are typically reflected in liquidity indicators and in the ability to use securities as collateral.
Developments in the credit market are so far presenting a mixed picture. Banks have kept lending standards for companies unchanged, which suggests a certain degree of stabilization. Demand for loans from businesses has subsequently slightly revived, but in the end it is being held back by uncertainty related to trade conflicts and the global slowdown. Households, on the other hand, are waiting for a more noticeable decline in mortgage rates, which would support the housing market. Overall, however, it remains true that lending conditions are not tightening, but their easing will likely be gradual and selective.
Inflation in the Eurozone has meanwhile approached the ECB’s target, reaching 2.1 percent in August. Specifically, food, alcohol, and tobacco prices rose by 3.2 percent, closely followed by services with an increase of 3.1 percent. Energy prices, on the other hand, showed the opposite dynamic, declining by 1.9 percent. Based on these figures, the European Central Bank, after cutting rates in June, has moved into a cautious pause, which was confirmed by the September decision to keep interest rates at 2.15 percent. As usual, the future trajectory will primarily depend on data and on how the fiscal policies of individual member states evolve.
