Euro zone grows quicker than forecast before large trade war hit

FRANKFURT, April 30 (Reuters) - The euro zone economy grew faster than expected in the first quarter, starting 2025 on a modestly upbeat note before a trade war with the U.S., a surging currency and deteriorating business sentiment weaken it, data showed on Wednesday.

The world's second-largest economic bloc has barely grown over the past several years as businesses held back investment and households tried to rebuild wealth lost due to high inflation, putting Europe on the back foot even before the latest escalation in trade tensions.

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While 2025 was long seen as a key year in its gradual recovery, the outlook turned on U.S. President Donald Trump's "Liberation Day" and policymakers warn that permanent damage has already been done to the global economy, even if there is an eventual resolution to the tensions.

The 20 nations sharing the euro currency saw their economy expand by 0.4% in the first quarter, beating expectations for 0.2%, driven by quick growth in Spain, Eurostat said.

However, the underlying trend was significantly weaker as the data was distorted by a 3.2% expansion in Ireland driven largely by activity among big foreign companies based there for tax reasons.

Germany, Europe's largest economy, grew by just 0.2% while France expanded by 0.1% and Italy by 0.3%, suggesting that excluding Ireland, the bloc was growing close to the 0.2% expected by economists.

Since the end of the quarter, the outlook has darkened significantly.

Meanwhile, a key sentiment indicator published on Tuesday showed a major dip, erasing any hope of a recovery and putting the indicator on a downward trend after it flatlined for most of 2024.

The European Central Bank has already said that on top of the trade war, the financial market turbulence set off by U.S. policies and the general deterioration in sentiment will all dampen growth.

But the bloc was only seen expanding by less than 1% even before Trump's tariff bombshell, suggesting that any other major damage would put it close to a recession.

However, most economists and policymakers say that the U.S. is bound to take a bigger hit than other economies, creating an incentive for the Trump administration to scale back its policies.

While the ECB has been cutting interest rates quickly to insulate the bloc and will likely ease again in June, it is relatively powerless against such a fundamentally broad-based downturn.

Increased fiscal spending by the new German government on defence and infrastructure is bound to help, but that will take time to legislate and implement, suggesting that little to no fiscal boost is likely this year.

A mild positive of the trade tensions is that inflation fears have largely dissipated. Dropping energy prices, a strong euro and weaker growth are all likely to put downward pressure on prices, giving the ECB space to lower rates further to support the economy.

Nevertheless, that increases the risk that inflation starts to undershoot the ECB's 2% target, especially if China, largely shut out of the U.S. markets, starts dumping its surplus goods on other economies.

Reporting by Balazs Koranyi; Editing by Hugh Lawson

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