The European monetary union (aka the euro area) consists of 21 countries of the European Union who share the same currency.

In the first half of this year, the economic growth in euro area slowed to an annual rate of 0.9 percent from 1.2 percent in the previous six-month period.

And the growth outlook for the rest of the year is not good. The energy driven accelerating inflation will lead to rising interest rates, and the excessive public debts and increasing budget deficits will require government spending cuts and tax increases.

The energy price inflation and low energy reserves are particularly alarming.

In the year to September, the euro area energy prices soared 19 percent from the year earlier, rising 4 percent from the previous month.

Shortage of energy supplies and the E.U.’s low energy reserves will keep upward pressures on energy costs. The current storage level of gas is 74 percent, quite below the 89 percent average for this time of the year. The E.U. countries are expected to raise their gas storage levels to 80 percent by the end of October 2026.

The euro area’s explosive policy mix must change

Oil reserves are also at critically low levels of 90 days of net imports. Germany’s emergency oil stocks are at about 92 days, France’s are at 88 days, and Spain’s are at 97 days. The E.U. authorities are now considering whether to allow further reductions of their national reserves.

All that comes at a time of tightening energy supplies and surging energy prices caused by Middle East wars, sanctions and boycotts of Russian sources.

And here is a question: Can the European Central Bank (ECB) passively watch all that when its policy rate (2.65 percent) adjusted for inflation (3.8 percent) is a negative 1.2 percent?

One of ECB governors says yes, at an IMF conference in Bangkok, Thailand. In his view, “tightening financial market conditions” may not require “monetary policy interventions.”

It is true that rising inflation leads to declining asset values and falling real household disposable incomes. That leads to declining growth and rising unemployment. But a central bank cannot sit idly by and destroy its credibility.

The ECB will have to act because its negative real policy interest rate reflects a hugely expansionary monetary stance. And remember that price stability is the key yardstick for measuring the effectiveness of central bank policies.

The euro area now has an explosive policy mix of loose money and out of order public finances.

Fiscal policy in Germany and France – which, taken together, account for one half of the euro area economy – exceeds the public debt (60 percent of GDP) and budget deficit (3 percent of GDP) limits set by the monetary union’s treaty obligations.

Make peace in Ukraine

That is particularly the case of France, where the budget deficit currently runs at more than 5 percent of GDP, with the public debt of 118 percent of GDP -- and counting. Germany does much better, but its budget deficit is slipping toward 4 percent of GDP, and the public debt is slightly above 64 percent of GDP.

The rest of the major euro area economies Italy, Spain and The Netherlands have their budget deficits at or below 3 percent of GDP, but Italy and Spain run public debt/GDP ratios of 139 percent and 102 percent.

The point here is that none of these larger euro area economies, except The Netherlands, have any room to help their neighbors with stronger public spending and growing domestic demand.

Can net exports help? Not much. In the first eight months of this year the euro area had a $49 billion trade surplus with the United States, but that is only one-third of the trade surplus during the same period of last year. Only Germany, France and Italy had small surpluses on U.S. trades.

Trade with China is a different story. During the first nine months of 2026, the E.U. had a trade deficit of $277.3 billion, with exports to China rising 5.5 percent but imports from China surging 16.4 percent. Trade tensions with China will worsen. The only solution is China’s production facilities within the E.U. And that’s what China will do to beat BMW, Mercedes Benz and Peugeot-Citroen.

The euro area’s principal economic problem is the energy driven inflation. The solution is nowhere in sight if energy supplies from Russia and Middle East remain at current levels.

Other problems are growing political instabilities in Germany and France. Germany’s governing coalition is strongly challenged from increasing popularity of far right and left parties. France, for its part, is riven by social unrest. That will get worse as an assault is unleashed to bar the front runner far-right party from winning next year’s presidential elections.

The changing political landscape in France and Germany could radically change the traditional French German relations and the foundations of the European economic and political project.

But the ultimate existential danger is the E.U.’s Ukraine war with Russia. The European hotheads should remember John F. Kennedy’s message from his speech at the American University in Washington, D.C. on June 10, 1963. That’s when JFK warned that he wanted to avoid confrontations “which bring an adversary to a choice of either a humiliating defeat or nuclear war."