How Trump’s tariffs could help Europe catch up with the US

A disunited Europe fracturing and declining in a haze of political uncertainty and bureaucracy is the narrative that has featured prominently for many investors in recent years.

There was the crisis back in 2009 when debt-laden countries like Portugal, Italy, Ireland, Greece and Spain (PIIGS) looked like defaulting on their debts and were bludgeoned into austerity by Germany and France.

Then in the UK there was Brexit. Let’s not dwell on that.

Suffice to say that the UK was not alone in succumbing to populist rhetoric. Across Europe we have seen the rise of populist parties.

But the onset of the war in Ukraine and the stark shift in US economic and foreign policy goals have dragged European leaders together which is already starting to have a material impact on markets and portfolios in 2025.

Collaboration and unity among European leaders

It was always said that politicians campaigned in poetry and governed in prose. More recently it has felt like they have campaigned in protest and governed in protest.

But suddenly something has changed. Europe is getting its act together. The anger seems to be subsiding. We are seeing collaboration and unity. And the person to thank is not a Lagarde, a Von der Leyen, Costa, Scholz, Sánchez or Macron. It’s Trump.

European equity markets that languished in 2024 are up substantially in a couple of months. Whisper it quietly, but we might be in the foothills of something meaningful and positive here.

European equity markets that languished in 2024 are up substantially in a couple of months. Whisper it quietly, but we might be in the foothills of something meaningful and positive here.

The Economist’s ‘country of the year’ at Christmas was Spain; the best-performing developed nation in the world last year, with 3% GDP growth, a vibrant labour market and high levels of immigration that have boosted production¹.

Germany is working on a fiscal package that may not totally cast aside Teutonic prudence but might lead to serious growth and recovery that will also lift its neighbours. Germany’s debt accounts for just over 60% of nominal GDP. That compares with 97% for France and 123% for the US². So it does have some headroom for manoeuvre.

A shift towards a softer Brexit

And then there’s Britain (debt at 95% of GDP)³. The Labour government here has an imperative to put growth at the heart of its agenda if it is to invest in public services while limiting tax increases and making serious inroads into that debt pile.

Removing some of the frictions introduced by Brexit could help. We may not be in a fully-fledged customs union any time soon, but a pragmatic shift to what we might have expected in a softer Brexit could help growth plans.

Put that mix together and it is quite a cocktail. Thank you, Donald.

Trump’s threats on tariffs and his withdrawal of near unconditional support of Ukraine and Nato seem to have sparked European leaders into life. They are grasping the need to invest in defence, to work better together and play to their own strengths and pay more attention to building self-sufficiency in Europe.

The impact of European policy on markets

This brings us to markets. Markets – or, at least, the investors who drive them – like thriving economies. They like momentum and positivity. For the past few years, the US has been like a magnet, with the Magnificent Seven drawing global investors and generating astounding returns. The US had all the momentum.

Europe – and you could say the same of China and Japan – vacillated, toggling between optimism and fear. There has been no clear, sustained travel in a positive direction.

Now we seem to be trading places. Trade wars and tariffs may play well with a domestic audience but they do not sit comfortably with economists and global investors.

US equity markets began the year on punchy valuations. But tariffs and the unknown consequences of the DOGE slash-and-burn approach to government employment are making investors worry about the economy. The S&P 500 has dropped markedly since its peak in February, as has the dollar.

Tariffs and the unknown consequences of the DOGE slash-and-burn approach to government employment are making investors worry about the US economy.

Cutting public spending may prove to be a good thing in the long term – especially if AI can be harnessed to increase productivity. I do not want to make political statements. And you should never underestimate the US – it has too much going for it.

Diversifying away from the dollar

But the argument for those who are heavily invested in the US to diversify away from dollar-denominated assets to some degree seems to me to be compelling. Europe looks an attractive destination for anyone doing some portfolio rebalancing.

Back in 2004 I was based in New York and running European money. At that time, the dollar was underperforming, emerging markets were ripping and technology was about 16%⁴ of the US market – today it is about half. Microsoft was a value stock, trading on a low double-digit earnings multiple (today its P/E ratio is over 30x)⁵. Different times. But it demonstrates that pendulums swing. Markets do trade places.

There is a long way to go; we need to see returns improve before big flows will come. And trade wars will be good for no one. But we may be seeing one of those changes in market characteristics happening right now.