In 2025, Europe's economy may encounter some turbulence. Keep an eye on these 5 factors.

• Despite a pessimistic outlook for Europe in 2025, analysts predict some positive aspects to keep an eye on.
• The region's economic prospects are anticipated to be influenced by continued interest rate cuts, potential U.S. tariffs, and the divergence of peripheral economies.
• Chris Watling, CEO and chief market strategist at Longview Economics, stated on CNBC that Europe will experience positive times in the future, although it may take some time to arrive.

Despite political turmoil, subpar economic information, and predictions of missed growth targets, Europe has faced a challenging year. Despite a pessimistic outlook, analysts believe there may be some promising developments to look forward to in 2025.

The European Central Bank has lowered its growth forecast for 2025 to 1.1%, and ECB President Christine Lagarde stated that risks to growth are still leaning towards the negative side.

While the euro area's GDP is predicted to increase by 0.8% in 2023, this is a significant improvement from the previous year's growth rate of 0.4%. However, it is still far below the 3.4% growth rate recorded in 2022. In contrast, U.S. officials anticipate a growth rate of 2.7% in 2023.

The focus on Euro zone inflation has intensified after it briefly fell below the ECB's target of 2% in the autumn, but then rose back above it in November.

Here are five key factors that investors and economists are monitoring as they assess Europe's economic outlook for 2025.

1. Monetary policy

The European Central Bank announced its fourth and final rate cut of the year last Thursday. Markets are anticipating another 25-basis-points cut when the ECB's Governing Council makes its first policy decision of 2025, according to overnight index swap data.

Peel Hunt's chief economist, Kallum Pickering, believes that the current measures aren't sufficient.

"Economic logic suggests 50-basis-point moves, but I believe they won't accept this," he said on CNBC's "Street Signs Europe."

Pickering stated that the ECB's tone was too hawkish, as Europe's economic problems had shifted from supply shocks to demand-side issues, making it unlikely that inflation would remain "sticky" in the next six months.

The majority of traders predict that the ECB's key rate, currently at 3%, will be reduced to 2% by mid-2025, with some anticipating further cuts in the second half of the year.

In a note to clients at the end of November, analysts at Bank of America predicted that the ECB's policy rate would fall below 2% by 2025.

"A deposit facility rate of 1% is easily conceivable," they stated.

2. Crisis of confidence

A cautious consumer is among the many headwinds Europe has faced this year.

In November, the European Commission reported that consumer confidence in the euro zone decreased by 1.2 percentage points compared to the previous year. Additionally, the commission's economic sentiment indicator, which is based on surveys of businesses and consumers, has been below its long-term average all year and is currently slightly lower than it was at the end of 2023.

S&P Global Ratings' chief EMEA economist, Sylvain Broyer, stated that monetary policy changes in Europe could improve sluggish confidence levels, according to CNBC.

According to Broyer, a member of the ECB's "shadow council" of economists, the central bank is in a position to accelerate rate cuts, which could help growth because confidence remains low despite the ongoing economic recovery, as stated on CNBC's "Squawk Box Europe" last week.

"The policy mix in Europe has been restrictive for the past two years, with both fiscal and monetary policies contributing to this. If we modify this policy mix slightly for 2025, it could help to definitively improve the situation."

3. Peripheral outperformance

Longview Economics CEO Chris Watling pointed out a discrepancy among European economies, stating that some European countries are expected to experience a reversal of their economic prospects.

"According to Watling, Europe will experience positive growth over the next two to three years. He believes that Southern Europe is particularly promising and refers to it as the "return of the PIIGS.""

Each of the countries in the PIIGS group, which includes Portugal, Italy, Ireland, Greece, and Spain, has a history of economic instability and crises.

The European Commission predicts that Spain's GDP will increase by 3% in 2021 and 2.3% in 2025, while the OECD anticipates that Spain will experience the third-strongest growth among OECD countries in 2021. In contrast, the Greek economy is expected to grow at 2.1% in 2024 and 2.3% in 2025.

Despite a warning that Europe's financial markets may struggle in the first six months of 2025, Watling remains optimistic about these countries.

"Having a crack in markets in the first half can lead to central banks cutting rates and accelerate the global economy in the second half of next year, from 2026," he stated.

4. Tariffs

A second Trump presidency and the resulting tariffs could pose new challenges for Europe, despite some promising developments on the horizon.

The prospect of President-elect Donald Trump imposing 10% to 20% tariffs on all U.S. imports has caused uncertainty among European firms and prompted questions about how the region would respond.

Citi's European Road Ahead report stated that a 10% tariff could decrease EU GDP by 0.3% by 2026. Additionally, a new U.S.-China trade war could intensify the harm in vulnerable countries such as Germany.

The analysts stated that they do not believe in like-for-like retaliation, which would result in a deflationary shock, but global fragmentation will negatively impact trade-dependent Europe in the long run.

The incoming U.S. administration is likely using tariffs as a bargaining chip, according to Janet Mui, head of market analysis at wealth manager RBC Brewin Dolphin.

While tariffs are a significant concern, it's likely that Trump won't fully implement his threats.

5. Political instability

Political turmoil is also plaguing Europe's two largest economies, France and Germany, within their borders.

Earlier this month, Michel Barnier was removed as French Prime Minister and replaced, while Olaf Scholz lost a confidence vote on Monday, leading to early elections next year in Germany.

David Roche, a strategist at Quantum Strategy, compared Europe to a soufflé, with France and Germany being the rising part that has now collapsed into stagnation and paralysis, as he told CNBC earlier this month.

"The economic and political situation in the heart of Europe is deteriorating, and I predict that the markets will eventually reflect this."

In fact, political uncertainty in Germany could spark a turnaround in the country's faltering economy, according to Maximilian Uleer, head of European equity and cross-asset strategy at Deutsche Bank.

"Germany's political stability is well-known, with only two coalition break-ups in recent history. Both instances occurred during recessions, and Germany responded by implementing reforms and emerging stronger. Do not underestimate Germany's ability to adapt and change."