François Hollande, the eurozone’s unlikely Thatcherite

By Ian Fraser

Published: Qfinance

Date: November 26th, 2012

Many of François Hollande’s predecessors as French president have publicly stressed the need for structural reforms – for example plans to raise the pension age, or measures to free up France’s labor market – but balked before implementing them. It happened to ex-president Jacques Chirac, who shelved plans for pension reforms after strikers brought Paris to a standstill in the mid-1990s and it happened to former prime minister Dominique de Villepin, who binned plans for a more flexible employment law for young people after student protests erupted in spring 2006. It even happened to Hollande’s tough-guy predecessor president Nicolas Sarkozy.

However there are big questions over whether President Hollande will get away with emulating such cowardice now that the eurozone’s second-largest economy has been downgraded by both Moody’s and Standard & Poor’s, especially given the fact France’s debt-to-GDP expected to reach 105% by the end of December.

On November 20, Moody’s Investor Services slashed France’s rating from AAA to Aa1 and threatened to cut it further unless the country brings in measures to liberalize its labor market and overhaul its economy, in which public sector spending accounts for 57% of GDP.

As The Economist, which has been hyper-critical of France in recent days, noted:

A fair chunk of Moody’s analysis touches home-grown problems that France cannot blame on others. Moody’s identifies other reasons for its downgrade. First, deteriorating long-run economic prospects due to “the country’s persistent structural economic challenges”: “rigidities in labor and services markets” (high taxes and social contributions; high employment protection legislation), “low levels of innovation”, and a “gradual but sustained loss of competitiveness and the gradual erosion of its export-oriented industrial base”.

Moody’s expressed concern about the fiscal outlook, saying the French government’s forecasts of GDP growth of 0.8% in 2013 and 2% from 2014 were “overly optimistic”. Rising unemployment and tax increases are likely to dampen consumption further, added The Economist. Moody’s said it was anticipating fiscal slippage, and the likely need for additional consolidation measures to meet budget-deficit targets. Moody’s also warned that more big shocks from the eurozone debt crisis would also exert downward pressure on France’s rating.

On a more positive note, Moody’s acknowledged that France has a large and diversified economy and that its bonds remain “extremely highly rated”. It also acknowledged that the Hollande’s government had made a “strong commitment” to structural reform and fiscal consolidation, which it said might mitigate some of the risks.

Given he is a staunch Socialist who opened his election campaign earlier this year by declaring war on “financial markets”, one might expect Hollande to give a further Gallic shrug to such Anglo-Saxon blandishments.

But it is looking increasingly likely that Hollande will be willing to enter a pact with his old adversary. Writing in Reuters BreakingViews, Hugh Dixon said that after spending his first few months in the Elysée Palace ‘merrily attacking the wealthy, pushing up taxes and partly reversing his predecessor’s pension reform’, Hollande is today “no longer in denial“.

Rather than telling the rating agency to get lost, Hollande’s response was to insist he would press ahead with reforms. However his government was unhappy that the US-based rating agency had overlooked the steps Hollande and his administration had already taken to revamp France’s economy. Hollande said after the November 20 downgrade:

“We must take note, stick to our economic policies, keep on track and understand that we have every interest in improving public finances.”

The country’s finance minister Pierre Moscovici was also eager to neutralize any possible fallout from he downgrade, saying:

“Moody’s raised concerns about France’s capacity to reform and so it is up to us to show that this time we are going to carry out reforms … The rating change does not call into question either the economic fundamentals of our country, the efforts undertaken by the government or our creditworthiness.”

Belt-tightening measures in the pipeline in France include €30 billion in budget savings in 2013, and promised reforms next year to add flexibility to rigid labour laws.

“Certain criticisms are too strong or are too late. I would have preferred that the bold and unprecedented decisions on the crisis were better received,” Moscovici said of Moody’s.

However we’ll have to wait and see how the likes of Hollande and Moscovici respond when ‘les manifestations‘ (protest marches etc) begin in earnest.

Some argue that, especially given the recent devastating court ruling against Standard & Poor’s in Australia, that credit rating agencies are a busted flush and deserve to be roundly ignored.

Writing in Mindful Money, economist Shaun Richard said: “You could argue that the real impact is that we have yet more evidence of the waning power of ratings agencies rather than a kick in the teeth for France.” French 10-year borrowing cost is only 2.1%, compared to Italy’s 4.9% and Spain’s 5.9%.

This article was first published in Qfinance on November 26th, 2012

Further reading on François Hollande and the French economy

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