Tuesday, April 17, 2012

Analysis: Financial corset to rule France, whoever wins poll

Financial-corset-to-rule-France While French President Nicholas Sarkozy paints Socialist challenger Francois Hollande as a threat to the stable euro and France's fiscal discipline, such as it is, economic reality will set a similar course for whomever wins the presidency.

The political rhetoric has aimed to magnify the gap between their economic programs, but it broadly boils down to a timing difference; conservative Sarkozy has committed to balancing the budget in 2016, while Hollande, who leads polls by as much as 10 percentage points for the May 6 runoff, has set a 2017 deadline.

Whoever wins will have to convince the markets that Paris, despite its weak growth and poor finances, has more in common with the soundest borrowers in northern Europe than the debt-laden countries on the euro zone periphery.

"On financial markets, there is a lingering doubt," said Oddo Securities economist Bruno Cavalier. "The first aim is not to send the wrong signals, so that investors don't start asking themselves serious questions about deficit reduction."

Both candidates have pledged to cut the deficit to an EU limit of 3 percent of gross domestic product (GDP) next year, and while Hollande's ability to deliver is untested, having never held a high-profile cabinet post, Sarkozy's record is not entirely supportive. One of the first things he did on taking office in 2007 was to inform his euro zone partners that he was tearing up Paris's fiscal targets.

History, indeed, is against them both; France has not balanced its books since 1974.

"Based on the last 40 years, France has a poor track record in terms of fiscal discipline," said Herve Boulhol, head of the France desk at the Organisation for Economic Cooperation and Development, a rich nations' think-tank.

"It is crucial that French governments continue to build credibility by sticking strictly to the consolidation path."

Hollande is assuming a license to wiggle. He has said he would relax his deficit targets if economic growth is weak, but the gradient he has to climb will be a little steeper after the first three measures he aims to introduce in a special summer parliamentary session; an increase in a back-to-school handout for parents, a state-backed deposit for young tenants, and lowering the retirement age to 60 for people who started work at 18 are likely to increase spending.

Sarkozy begins with a tougher task, given the shorter timeframe, and his plans rest on optimistic growth forecasts and what even the conservative-leaning Institut Montaigne says are 20-percent overestimates in his savings program.


Both men plan to make the biggest deficit cut in 2013, and are counting on economic growth of 1.7-1.75 percent. Most economists, however, forecast growth will be far weaker - on average less than 0.9 percent - and expect the deficit target to be missed.

Further out, the estimates look richer still; Sarkozy expects growth to accelerate to 2 percent in the ensuing years, while Hollande sees growth rebounding to as much as 2.5 percent annually after 2013.

France's average annual growth rate has been just 1.6 percent over the last 20 years, and even Sarkozy's government considers the economy's potential long-term growth rate to be only 1.7 percent.

"The credibility of the newly elected government will be tested as early as this coming fall, when it presents its budget," Boulhol said.

Sarkozy's budget-balancing drive is built on a plan to find a cumulative 125 billion euros ($164 billion) by 2016, with 45.5 billion euros coming from new revenue and 79 billion in spending cuts achieved by reining in expenditure growth to 0.4 percent a year.

Hollande aims to find 100 billion euros by 2017, with half of that coming from new revenues and half from limiting nominal growth in public spending to 1.1 percent per year.


Any drift from such targets could come at a heavy price, as Spain has found. Its bond yields, and therefore its funding costs, have steadily climbed to their highest levels this year since the government gave itself less demanding deficit targets last month.

The premium investors demand to hold French bonds over low-risk German debt is already on the rise - to the highest levels since early January - as unease over the euro zone's debt difficulties rises again after a few months' respite afforded by European Central Bank measures.

"If the clarity, persistence and priority of the (deficit reduction) path is affirmed, there is no reason why France in this regard would be the subject of a loss of market faith," Bank of France Governor Christian Noyer said last week.

And if not? The state paid 51.5 billion euros ($67.4 billion), or 2.6 percent of GDP, in interest payments last year, despite its borrowing costs being at a record low. Sarkozy's government estimates the burden of debt servicing will rise in coming years and reach 2.8 percent of GDP in 2016, even with borrowing costs rising only marginally. If they rise substantially, a vicious circle makes the deficit targets harder still.

Despite ideological differences between the candidates - Hollande's instincts are on show in his pledge for a 75 percent top tax rate, and Sarkozy's in his aim to cut companies' social welfare charges - they will have less scope to indulge them than for generations.

"There are budget constraints that will be difficult to escape," said Cavalier. "We've been able to escape them for several decades, but the time's come that it's not possible anymore."

($1 = 0.7644 euros)

(Reporting by Leigh Thomas; Editing by Will Waterman)

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