WED · MAY 13, 2026 · ISSUE #020

📌 TODAY'S TOPIC

Europe faces real headwinds from the Iran war. But underneath the noise, something significant is happening. Germany just launched its biggest fiscal stimulus since reunification. Defense spending is creating a manufacturing boom. European stocks trade at half the valuation of US markets. Here's the clear-eyed case for Europe.

🔍 WHAT IS IT?

For most of the past decade, Europe has been the world's economic underperformer. Slow growth, political fragmentation, energy dependence, and an aging population made it easy to overlook. American tech stocks soared. Chinese manufacturing dominated. Europe seemed stuck.

Then, quietly, several things changed at once.

After years of stagnation, Germany is positioned for one of the most meaningful rebounds among major economies, thanks to newly unleashed fiscal stimulus. Th e German government approved a historic €500 billion infrastructure and defense fund — the largest fiscal expansion in postwar German history. Deutsche Bank Research anticipates that German government spending on defense and infrastructure in 2026 will "lift the Euro area economy" because "a greater-than-expected share of defense orders is going to domestic producers, boosting the defense multiplier and benefiting the entire euro area."

The ECB, meanwhile, has delivered eight rate cuts since June 2024, bringing its deposit rate from 4.00% to 2.00%. Domestic demand has been improving since mid-2024, supported by recovering real incomes, a robust labor market, the impact of ECB rate cuts, public investment and less fiscal tightening than originally anticipated.

Europe's unemployment rate — often forgotten in American financial media — sits at a historic low of 6.1%. Real wages are rising. Consumer confidence is recovering. And European equity markets are trading at roughly 13 times earnings — compared to the S&P 500's 21 times. That valuation gap is the widest it has been in two decades.

The Iran war has added headwinds — energy prices rose, inflation ticked up to 2.5%, and growth forecasts were trimmed. ECB staff projections foresee annual average real GDP growth of 0.9% in 2026, 1.3% in 2027 and 1.4% in 2028. Th at is modest. But it is positive, resilient, and growing — and it comes on top of structural shifts that most investors have not yet priced in.

📖 INTERESTING HISTORY

To understand why Europe's current moment is significant, you need to understand the decades of constraints it is finally breaking free from.

Germany's Self-Imposed Straitjacket
For 75 years, Germany carried the weight of its wartime history into every economic and military decision. The "debt brake" — a constitutional rule limiting federal deficits to 0.35% of GDP — was the ultimate expression of German fiscal conservatism. Germany ran budget surpluses for years while its infrastructure aged and its military hollowed out.

In March 2025, Germany did something almost unthinkable: it voted to suspend the debt brake and approve a €500 billion spending package — €100 billion for defense and €400 billion for infrastructure, climate, and economic modernization. This was not a modest stimulus. It was a fundamental reorientation of German economic policy — and by extension, European economic policy.

The ECB's Quiet Revolution
The European Central Bank spent most of 2022–2024 fighting inflation with aggressive rate hikes — the same playbook as the Fed. But Europe's inflation came down faster. The ECB began easing in June 2024, and has since delivered eight rate cuts, lowering the deposit rate from 4.00% to 2.00%. While the Fed remains frozen by persistent US inflation, the ECB has already moved into broadly neutral territory. That monetary tailwind — cheaper borrowing costs flowing through mortgages, business loans, and consumer credit — is only now beginning to reach the real economy.

The Defense Boom
As we covered in Issue #010, NATO's rearmament is one of the structural investment stories of the decade. Europe is the epicenter. Rheinmetall, Germany's premier defense company, has seen its stock rise over 200% since Russia invaded Ukraine in 2022. BAE Systems in the UK, Thales in France, and Leonardo in Italy are all at multi-year highs. The defense spending multiplier is real — a greater-than-expected share of defense orders is going to domestic European producers , creating jobs, filling factories, and generating tax revenue across the continent.

The Southern Europe Surprise
While most attention focuses on Germany and France, Southern Europe has been quietly outperforming. Spanish GDP growth is projected at 2.5% for 2026 — faster than the US — driven by tourism, a competitive labor market, and successful economic reforms. Portugal, Greece, and Croatia are also growing at rates that would have seemed impossible a decade ago, when they were bailout recipients. The eurozone's internal rebalancing is real and durable.

💡 WHY IT MATTERS TO YOU

Europe's economic shift has direct implications for your portfolio, your understanding of global markets, and the investment opportunities most American investors are overlooking.

The valuation gap — the most important number
European stocks trade at approximately 13 times forward earnings. The S&P 500 trades at approximately 21 times. That 8-point gap is historically wide and reflects years of American outperformance that has pushed US valuations to stretched levels. History shows that when this gap is this wide, European markets tend to deliver better returns over the subsequent 5–10 years — not because Europe is better managed, but because starting valuation is the single most important determinant of long-term investment returns.

The investment vehicles
US investors can access European markets easily. Broad exposure: VGK (Vanguard FTSE Europe ETF), IEV (iShares Europe ETF), FEZ (SPDR Euro Stoxx 50). Germany specifically: EWG (iShares MSCI Germany). Defense focused: EUAD (VanEck Defense UCITS), which captures the rearmament boom directly. These ETFs give diversified European exposure without requiring individual stock selection.

The structural tailwinds
Three forces are working simultaneously in Europe's favor. First, fiscal stimulus: Germany's €500 billion package is the largest since reunification and will generate economic activity for years. The cumulative growth impact from fiscal spending on defense and infrastructure is estimated at 0.5 percentage points of euro area GDP — significant for an economy growing at under 1%. Second, monetary easing: eight ECB rate cuts have reduced borrowing costs substantially — the transmission of ECB policy takes time, around nine to 18 months. The gradual pass-through of lower rates is starting to show. Third, energy transition: the Iran war has accelerated Europe's push for energy independence, driving investment in renewables, nuclear, and LNG infrastructure.

The honest headwinds
A clear-eyed view requires acknowledging the risks. The Iran war has added inflation pressure — European headline inflation rose to 2.5% in March. Germany and Italy are more exposed to the latest shock given their larger manufacturing base and higher reliance on fossil fuels. US tariffs remain a structural drag on European exporters. French political uncertainty is a perennial risk. And European growth of 0.9–1.3% is not spectacular — it is stable, improving, and undervalued.

The bottom line
Europe is not a miracle story. It is a value story — a large, sophisticated economy trading at a significant discount to fair value, with genuine fiscal and monetary tailwinds that most investors have not yet fully priced in. In a world of stretched US valuations, rising geopolitical risk, and slowing Chinese growth, Europe's steady, undervalued recovery deserves serious attention.

📊 THE NUMBER TO KNOW

13x vs 21x

The forward price-to-earnings ratio of European stocks versus the S&P 500. European equities are trading at a 38% discount to US equities — the widest valuation gap in two decades. Eight ECB rate cuts, Germany's €500 billion stimulus, and a defense spending boom are not yet reflected in these prices. That gap does not stay wide forever.

⏭ NEXT ISSUE — FRIDAY, MAY 15

"What Is the World Bank — and Is It Failing?"

The institution designed to prevent exactly this kind of global crisis — food shortages, emerging market collapses, energy shocks — is under more pressure than ever. On Friday we explain what the World Bank actually does, why it matters, and whether it is equipped to handle the challenges of 2026.

Thanks for reading MWF Macro.

Twenty issues in — and the global picture keeps evolving. Not every story is a crisis. Sometimes the most interesting story is the one quietly improving while everyone looks the other way. Forward this to someone who wrote Europe off years ago.