France’s financial problems are causing concern among its European Union partners as well as the financial markets. They are concerned that France’s minority government may make it difficult to stabilize its public finances.
This in turn poses a risk to the newly adopted fiscal guidelines of the EU.
On Saturday, the new government led by Michel Barnier as Prime Minister was announced.
The administration will have to rely on support from the National Rally, a far-right party, for votes that are critical, such as those relating to the budget 2025 and a seven year debt reduction plan mandated to them by the EU.
The situation is further complicated by the fact that both the far right and the far left, who hold almost one-third each of the parliamentary seats, are opposed to spending cuts, even though France’s deficit budget is expected to reach 6% of GDP in this year, double the EU’s prescribed ceiling.
Reuters reported that “the political instability of this coalition is undeniable”, citing a eurozone official who, like other officials, requested anonymity because of the sensitive nature of the situation.
I wouldn’t say that my expectations are too high.
The European Commission estimates that France’s public deficit, which was already 110.6% of its GDP in 2023 will increase to 112.4% in this year and to 113.8% by 2025, unless action is taken.
EU rules require a reduction of 1 percentage points of GDP annually.
A second Euro official told Reuters
This is a real problem, no doubt. It will be extremely difficult to put together a plan for debt reduction that is both compliant under the new framework, and politically acceptable within the hostile French Parliament.
The official said that “in the end, it is hoped that Paris will realize that the cost of failure would be very high and that this will encourage some parties at least temporarily to lend their support to government.”
French bond yields rise amid market anxiety
The impact of market jitters on France’s public finances is already affecting the nation’s borrowing rates.
Tuesday, the yield on France’s 10-year Government Bonds briefly exceeded that of Spain for the first since the 2008 Financial Crisis, reflecting growing investor concern.
By mid-October, Barnier will present the budget proposal for 2025 to the French Parliament and the European Commission.
By the end of October, a seven-year program addressing reforms and investments, as well as debt reduction, will be released.
Some EU officials think that market pressures could force French lawmakers to make difficult fiscal decisions. However, there is also concern that a weak debt program could undermine the credibility and newly established fiscal framework of the EU, which was introduced in April.
Can France avoid special treatment?
Senior eurozone officials noted that France had historically been lenient with the EU in regards to fiscal compliance. However, this time it may be different.
“I don’t believe France will be able sidestep the rules this time as failure would severely undermine new fiscal framework,” said the official.
France has repeatedly violated EU rules that limit budget deficits to 3% of GDP. It hasn’t achieved a surplus budget since 1974, three years before the birth of President Emmanuel Macron.
In the past, European Commission has offered France a certain degree of leniency. Former Commission President Jean-Claude Juncker famously justified this by saying, “France, France.”
The updated fiscal framework allows for countries to tailor their debt-reduction strategies in consultation with European Commission. It also aims at demonstrating that EU governments are serious when it comes to tackling the post-pandemic levels of debt and the financial strains from the energy crises.
“I guess that the French plan will be a trial case,” Reuters reported quoting a second eurozone official.
We’ll see how much flexibility France is given. Even if it appears that the initial plan is very strict, the Commission may have some flexibility in the future when they review their progress over the years.
The outcome of France’s debt management strategy is closely monitored as it will have a direct impact on its economy and also serve as an indicator of the effectiveness and enforcement of EU fiscal policies.
This post France’s debt problems spark concern in EU and markets could be modified as new developments unfold.
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