Although the nightmare of a far-right government has been put to rest, the difficulties of forming a government with a fragmented Parliament and the absence, so far, of a climate of consensus have raised deep concerns of prolonged political paralysis, with a heavy impact on the economy as well. An ungovernable France will have a very difficult time making the necessary decisions to get back on the right fiscal track.
Yesterday’s Commission decision activates for the first time the new revised Stability Pact, which requires member states with excessive deficits (above 3% of GDP) to take corrective measures in cooperation with Brussels.
The eurozone countries affected by yesterday’s decision are France, Italy, Belgium, Slovakia and Malta. The process also includes Poland and Hungary, however these countries do not belong to the eurozone, so they do not have the obligation to comply within a period set by the Council of the EU.
Greece
To the good “students” Greece, which is among the five countries with the best performances. Undoubtedly, France is in the worst position, where the deficit in 2023 reached 5.5% of GDP and, unless action is taken, it is not going to fall below 5%. However, the assessment that no government will be formed in the coming months makes it very difficult, if not impossible, to take corrective measures, let alone the measures provided for in the program of the left-wing New People’s Front, which has the largest number of seats in the new National Assembly, lead to a significant increase in the deficit.
The Italian public deficit will fluctuate this year at -1.2% of GDP and next year at -0.8% of GDP, an improvement that will be due to the moderate increase in public spending.
With regard to the next steps, the Council, based on the Commission’s proposal, is expected to officially establish the existence of an excessive deficit in the above countries, while it will approve the adjustment path and the compliance schedule of each country.
The new Pact provides for an “à la carte” procedure based on the specificities and problems of each country, adjusting the timetable accordingly. In any case, however, the initiation of the procedure marks the beginning of a difficult fiscal period for the country concerned.
And Macron… flies
French President Emmanuel Macron, who has yet to speak publicly regarding the election result and the post-election haggling between centrist Macronists and the Left, was last night scheduled to attend the Euro semi-final soccer match between France and Spain in Munich. From there he will “fly” to Washington, to take part in the NATO Summit today. Before the election, he assured that the outgoing centrist governing coalition would do everything to improve the economic indicators and reassure Brussels and the markets. Italy is also in a difficult position, where the deficit in 2023 reached 7.5% of GDP, however this country has a government, although correcting the situation will take several years, due to the size of the fiscal effort that will have to be paid.
Dangerous “rally” for French bonds
The liquidity scenario highlights market forces as equal interlocutors of political developments. The leaders of the parties and coalitions of the fragmented Parliament that emerged from last Sunday’s parliamentary elections in France appear not yet ready to form a viable government. In addition to Brussels, which was putting pressure on Paris to put order in the economy and before the elections, the bell is also ringing the bond market.
Some French bondholders had long chosen to ignore France’s budget deficit, which is far from the 3% of GDP limit set by the Commission, given its position as a pillar of the eurozone, analysts told Bloomberg.
With the triple polls within a month and the liquidity scenario with a high risk of political instability and anarchy that has arisen, the atmosphere has changed and this is reflected in the course of French government bonds, which have taken the upswing.
Investors are sending a message to France, along with the Commission, that it must immediately submit a budget reduction plan, as it does not have the luxury of time. Brokers are betting that the spread will widen further in the coming weeks, Bloomberg notes.
The yield demanded by investors to favor French bonds over benchmark German bonds hit a 12-year high of 86 basis points last month. It has decreased, but not to spring levels.
Despite initial relief at the removal of the risk of a far-right government, concern has not abated at the prospect of France being left with no leadership free to make painful decisions for a year until the next parliamentary elections can constitutionally be held.
“Today we are facing four blocs – the Macron Center, the Far Right and the Left, which will be in the new National Assembly – and I believe that the 4th strongest voice is now that of the bond market”, says Arnaud Giroud, head of the group of economists to Kepler Cheuvreux, a financial services company based in Paris.
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