European Fiscal Pressures Mount as Defence, Pension and Healthcare Costs Rise

Key summary

A Morgan Stanley analysis published on July 20, 2026, indicates that European governments face increasing pressure to fund defence, pensions, and healthcare while managing higher debt-servicing costs amidst weak growth. Without policy changes, public spending in most eurozone countries could rise by at least three percentage points of GDP by 2040. Factors driving this include ageing populations, rising interest costs, geopolitical tensions such as the ongoing Russia-Ukraine war (now in its fifth year) and conflict in the Middle East raising energy prices. NATO allies agreed at their June 2025 summit in The Hague to raise defence and security spending commitments to 5% of GDP by 2035, comprising at least 3.5% for core defence and up to 1.5% for related security spending. France, Italy, and Spain have public debt exceeding 100% of GDP. Spain and Portugal could see spending increases exceeding five percentage points of GDP by 2040 without policy changes, while Austria faces an estimated increase of around 1.5 percentage points. The UK projects a combined rise of 1.4 percentage points of GDP for pension and defence expenditure by 2040. Goldman Sachs Research noted that every additional €100 spent on defence could add about €50 to GDP over two years, depending on the type of expenditure and sourcing. The IMF forecasts eurozone growth of 1.1% in 2026 and 1.2% in 2027, warning that around three-quarters of European countries need structural reforms and medium-term deficit reductions averaging about 3.5% of GDP. Jon Gray of Blackstone highlighted fiscal strains in France and the UK as more urgent than in the US, noting that high debt burdens aggravate cost-of-living pressures.