Big-spending Macron has pushed France perilously close to a debt crisis

Yahoo

2 days ago

France faces the ultimate indignity. For the first time in living memory, the French risk falling behind their eternal poor relations on the other side of the Alps.
The Italian press has proclaimed the 'sorpasso' of 2025 as Italy's economy pulls ahead across a wide range of economic measures.
The most astonishing figure in the European Commission's latest data is that Italy's per capita income has drawn level with France. It was 10pc lower just before the pandemic.
You could call it the Meloni miracle – but Italy too is struggling by any historical or global standard. It is really a story of Emmanuel Macron's failure to halt the runaway expansion of the French state, and behind that is the larger story of incorrigible Gallic wishful thinking.
'Our sad record is that we are the most spendthrift country in the world. People simply don't realise it, and those who ought to be talking about this are negligent,' said Jean-Claude Trichet, ex-president of the European Central Bank.
The fiscal horror show has been running for a long time with barely a murmur from the bond vigilantes. But three storm-clouds are gathering: a) the country has crossed a critical line and is now in the early stages of an arithmetical debt trap; b) global real interest rates have jumped to a permanently higher level and creditors are freshly alert to debt dynamics; and c) the recent upheaval in Japan's once-catatonic bond market has sent shivers up everybody's spine.
Last year the Japanese life insurers and pension funds liquidated a net €41bn (£35bn) of French debt, partly because they took fright at French political chaos but also because rocketing yields in Japan have reignited the repatriation trade.
Woe betide any overstretched Western government if Donald Trump's putative 'Mar-a-Lago accord' forces a massive realignment of the East Asian currency system. It is not a time to stick out like a sore thumb. Liz Truss tempted fate during an earlier bout of global bond turbulence. But her sins were almost trivial compared to the structural self-indulgence of France.
'The situation is extremely serious,' said Mr Trichet. 'We are in a terrible situation when you compare us with other countries. We have the least ambitious deficit plans in Europe by a long way.'
He is watching with forensic fascination and alarm as France is forced to pay significantly higher borrowing costs than Spain and Portugal, countries that he had to rescue and restructure not so long ago after a bond market meltdown.
Eric Dor, the director of economics at the IESEG School of Management in Lille, says France is already facing a 'snowball effect' of spiralling interest costs. Nobody should be fooled by the eerie calm in the eurozone bond markets. 'It is getting dangerous. History shows us that the markets are highly non-linear,' he said.
'Emmanuel Macron has allowed such runaway growth in public spending that it is now nearly impossible to control. There are so many people dependent on the state that you can't get a majority to agree to cuts,' said Prof Dor.
That is a withering verdict on the neo-liberal Wunderkind – the 'Mozart of finance', no less – who swept into office eight years ago vowing root-and-branch reform of the French state.
The International Monetary Fund says French public spending will be 57.3pc of GDP this year and is still on a rising trend. This is roughly 10 points higher than in Sweden or Denmark. The sacred Modèle Français has many qualities, but Nordic public services are not among them.
Prof Dor said the critical threshold is when interest costs rise above the growth rate of nominal GDP. This may already have happened. France has been stagnating for several quarters. The average interest cost is rising relentlessly as the existing €3.3 trillion debt stock – mostly borrowed when capital was free – is rolled over at much higher rates.
Traders are betting that the ECB's Christine Lagarde will always step in to backstop French debt. Is that not why Mr Macron insisted that she have the job?
But the ECB's untested intervention tool (TPI) can be used only to defend countries that pursue 'sound fiscal and macroeconomic policies', are not 'subject to an excessive deficit procedure', do not have 'severe macroeconomic imbalances' and where the 'trajectory of public debt is sustainable'. France fails on all counts.
The ECB will act to stem contagion but there will be trouble in the governing council – and legal challenges in Germany – if Mme Lagarde bails out France pre-emptively.
Let us not confuse matters. France has great economic and strategic depths. It is an agricultural superpower. It has a world-class defence industry and a flourishing tech sector. It has a genuine rule of law and a AAA civil service. It has an unbeatable cultural brand.
The problem is a budget deficit running at 6pc of GDP long after Covid and the gas price shock have passed, roughly matching the pace of fiscal degradation in the US under Joe Biden and Donald Trump but without America's advantages.
Debt will rise mechanically to 116pc this year from 113pc last year. It will reach 120pc by 2028 even if all goes well.
Britain is hardly a shining example either but at least it has a coherent government able to impose a degree of discipline. The French political system is split three ways and is in a state of near complete breakdown.
Another lame-duck prime minister – the fourth in 18 months, this one a septuagenarian biographer of King Henri IV called François Bayrou – has no functioning majority in parliament and no functioning cabinet either. He herds squabbling cats.
Mr Bayrou faces near total impasse as he tries to push through €40bn of emergency cuts. French society will have none of it. Fury has greeted his first trial balloon, a modest plan to trim state subsidies for taxis taking people to the doctor or for paying for them to wait for hours at hospitals.
An IFOP poll shows that 65pc of the French public want to repeal the recent pension reform and revert to retirement at 62 instead of 64. No matter that the pension council says the age must rise to 66.5 to stave off insolvency, or that the rest of Europe is heading for 67 or 68.
The Club Med states reformed drastically and carried out an 'internal devaluation' within the eurozone to regain competitiveness after the debt crisis of 2010-2012. It was brutal, cost Europe a lost decade, and was enforced with a gun held to their heads – by Mr Trichet himself. But that ordeal is behind them.
France coasted. It could always count on Italy being in worse shape, or thought it could. But Italy is now running a primary budget surplus and is whittling down its debt ratio at a brisk pace. The two debt trajectories may soon cross in opposite directions.
Italy also has a current account surplus of 1.6pc of GDP and a net international investment position of plus €416bn. France is deeply in the red on both counts, with an NIIP of minus €757bn. Furthermore, Italy's economic growth has been higher over the last five years.
The rating agencies have so far pulled their punches on French debt but they are too frightened to downgrade important countries until it is already blindingly obvious.
Moritz Kramer, ex-head of sovereign ratings at Standard & Poor's, said rating agencies fear being put on show trial by politicised judges in Europe, and they fear Washington. S&P raised its score on America's institutional strength to a top level of one, just weeks after Jan 6 2021, when a violent mob stormed Congress and 147 House Republicans voted for the coup d'etat.
President Macron can ram through spending cuts by executive decree – the infamous Article 43.3 – but this is the method that so tainted his pension reform and pushed his presidency off the rails. If he tries, there is a high likelihood that the hard Left and hard Right will combine to bring down the Bayrou government and precipitate a constitutional crisis.
Marine Le Pen's Rassemblement will do even better than last time in a snap election. Mr Macron's moribund centre will shrink further. 'We'd end up in the same mess. I don't see any political way out of this. That is what is so worrying,' said Prof Dor.
You can shrug off bad debt dynamics for a long time, and you can shrug off bad politics for a while. But once you have the two together, you are courting fate.
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