Europe’s post-war economic model, built on three mutually reinforcing pillars, is weakening as global conditions shift, European Central Bank President Christine Lagarde said on Wednesday.
The first pillar—expanding global trade—has faltered, with over 2,500 trade restrictions imposed globally last year alone, eroding Europe’s historical advantage as the world’s most open economy. The second pillar, mid-tech manufacturing supported by relatively cheap energy, has also declined. China now competes directly in nearly 40% of sectors where the euro area holds a comparative advantage, up from about 25% in the early 2000s. Energy costs have risen sharply, with EU electricity prices for energy-intensive industries averaging more than twice U.S. levels and roughly 50% above those in China last year.
The third pillar—a stable, rules-based global order—has come under strain as geopolitical tensions expose critical dependencies and supply chain vulnerabilities. Lagarde noted that economic dependencies can now be weaponized, while security threats near Europe’s borders undermine investor confidence and weigh on output and consumption.
Despite these challenges, Lagarde emphasized Europe’s remaining strengths, including the world’s largest network of trade agreements, a highly skilled workforce, and a 27-nation integrated market of 450 million consumers. The euro area economy grew 1.5% last year, entirely driven by domestic demand, and expanded by 0.4% quarter-on-quarter in Q2 2026, with domestic demand projected to remain the primary growth driver this year.
To sustain long-term growth, Lagarde called for leveraging Europe’s domestic market scale to enhance productivity and innovation. She highlighted Europe’s strong research base—accounting for 15% of global researchers and nearly 20% of the world’s most-cited scientific publications—but warned that fragmented markets and capital constraints risk stifling commercialization, particularly in emerging technologies like AI.
Euro area firms plan to allocate roughly 9% of total investment to AI this year, according to survey data, but fragmentation in the Single Market and capital markets poses barriers to scaling. Research indicates that domestic competitive pressures in AI investment largely remain within national borders, while EU scale-ups raise about 50% less capital by their tenth year compared with their U.S. counterparts. Approximately 12% of EU scale-ups have relocated outside the bloc, primarily to the United States.
Policy responses include proposals for an optional EU-wide corporate legal form, “EU Inc.,” to simplify cross-border operations, alongside efforts to integrate capital markets by the end of 2026. Lagarde stressed that removing internal barriers and fostering a single market for capital would enable firms to scale more effectively, diffuse new technologies, and bolster productivity.
Turning Europe’s size into scale, she argued, would help sustain domestic demand as a durable engine of growth.
