Economic momentum across Europe and Central Asia (ECA) is expected to weaken in 2026 as rising geopolitical tensions, energy price shocks and limited fiscal space test the region’s resilience, according to the latest data. World Bank Economic Update.
After several years marked by successive crises, the region has shown remarkable resilience, with growth remaining broadly stable and supported mainly by private consumption and a gradual shift towards service-led job creation. However, this resilience is now under increasing strain.
Presenting the report’s findings, chief economist Ivailo Izvorski warned that a new wave of external shocks – including tensions in the Middle East and disruptions in global energy markets – are likely to weigh on inflation, demand and growth across the region.
Countries that depend heavily on energy imports are particularly exposed, as rising oil, gas and fertilizer prices feed directly into consumer costs.
Against this backdrop, growth across the ECA is projected to slow in 2026, with most economies expected to record weaker performance. While energy exporters such as Russia and parts of Central Asia may see temporary gains, the broader regional outlook points to a slowdown.
Limited policy space
A key concern highlighted in the report is the limited ability of governments to respond to new shocks.
Many countries entered this phase with higher fiscal deficits and tighter budget conditions than before the pandemic, limiting their capacity to deploy large-scale support measures. At the same time, inflation has been more stable than expected.
Aneta Krstevska, chief economist at the National Bank of North Macedonia, said inflation in the country rose from 2.9 to 4.9 percent in the month following the latest strikes, underscoring how quickly external pressures can feed through to domestic prices.
Meanwhile, Armen Nurbekyan, deputy governor of the Central Bank of Armenia, said the country expects inflation to rise by 1.2-1.7 percentage points, depending on the duration of the Middle East-related shock.
That leaves policymakers navigating a narrow path: protect households from rising costs while avoiding measures that could further fuel inflation or distort markets. Izvorski stressed that any short-term support should be targeted and temporary, focusing on vulnerable households rather than broad subsidies or price controls.
Industrial policy comes back into focus
In launching the report, Antonella Bassani, vice president of the ECA Region at the World Bank, said the renewed focus on industrial policy reflects a key trade-off for governments between short-term crisis support and attracting more productive, long-term investment.
Industrial policy interventions expanded during the pandemic before shifting to targets such as energy security, supply chain resilience and food production. In ECA, a significant portion of these policies are focused on the agricultural and traditional sectors, raising concerns about long-term growth.
Izvorski said countries in the region remain focused on ‘yesterday’s industries’ – sectors that support employment but are less linked to innovation – with only about 10 percent of policies targeting high-tech and capital goods.
Despite the expansion of industrial policies, productivity growth and job creation have remained subdued, with only a limited share of measures supporting sectors typically associated with stronger profits.
Structural reforms remain central
The report underlines that industrial policy cannot replace structural reform. Improving education systems, strengthening institutions, improving the business environment and supporting entrepreneurship remain essential for long-term growth.
Where industrial policy is used, it should prioritize ‘tailored public inputs’ – such as skills development, infrastructure and investment promotion – while more interventionist tools, including subsidies or trade restrictions, should be used sparingly.
Not all policy makers are convinced of its effectiveness. Nurbekyan warned that governments often struggle to identify winning sectors, noting that Armenia’s strongest performing sector in recent years was not targeted by previous policy efforts.
Frank Vandermeeren from the European Commission’s internal market directorate (DG GROW), said industrial policy can play a constructive role if aligned with competition, helping economies move beyond low- and medium-tech activities while maintaining innovation incentives.
He added that policymakers must balance competition, climate goals and economic security within increasingly complex policy frameworks.
From resilience to growth
While the region has weathered successive shocks, the World Bank warns that resilience alone is not enough.
In many cases, resilience has been supported by substantial public spending, which is no longer sustainable at the same rate. Without stronger productivity growth, Europe and Central Asia risk being stuck on a low-growth trajectory.
The challenge is to move beyond crisis management to a more sustainable growth model, combining sound macroeconomic policies, targeted interventions and deep structural reforms.
(BM)
