Introduction Stiftung Wissenschaft und Politik German Institute for International and Security Affairs Comments Economic Reforms in France WP Bleak Macroeconomic Data Is Shaking Politics in Paris and Cementing France’s Traditional Approach towards the Economic and Monetary Union S Paweł Tokarski With the third government since his election in May 2012, President Hollande will soon enter the second half of his term of office. He came to power with promises of economic recovery. However, the implementation of a coherent economic program quickly became an uphill battle. French voters’ persistent dissatisfaction resulted in two sound elector- al defeats of the »Parti socialiste« and record support for the »Front National«. The diffi- culties of the second largest Eurozone economy are sooner or later likely to affect the Eurozone’s stability. Why is it so hard to reform France? What does President Hollande expect from the Eurozone? And is there an acceptable way to assist French reforms? The French economy has been severely nomic Imbalance Procedure”, the European hit by financial and economic turmoil. The Commission stated that France had been widening of the current account deficit and experiencing macroeconomic imbalances recent deterioration of the net internation- which should be properly addressed. al investment position indicate a widening On June 2, in the framework of the Euro- competitiveness gap between France and pean Semester, the European Commission northern Eurozone countries. The problems delivered a slightly more optimistic picture with the French economy are numerous: an than in 2013, but pointed out several struc- excessive and gradually increasing govern- tural problems and cast doubt over the ment spending level (one of the highest in deficit assumptions made by the govern- relation to GDP in all OECD countries, and ment for 2014 and 2015. One of the main the highest in the Eurozone); rigidity of challenges for the current and future French wages; high unit labor costs compared with governments is the growing level of general other euro area countries; and red tape. government gross debt, which reached All of this puts a heavy burden on the pri- 93.5% in relation to GDP in 2013 and is pro- vate sector, making French companies less jected to reach 95.6% in 2015. A level of debt profitable and more vulnerable to foreign higher than 85% of GDP can be a significant acquisitions than their foreign competitors. drag to economic recovery. Although the In March 2014, in an in-depth review of the costs of debt servicing decreased last year, French economy, as part of the “Macroeco- in 2013 alone the French taxpayer had to Dr. Paweł Tokarski is an Associate in SWP’s EU Integration Divison SWP Comments 39 September 2014 1 Figure 1 blow to the government’s promises, indi- Net International Investment Position of France as % of GDP cating a 0% rate of economic growth in the first two quarters of 2014. Excluding 5 6 7 8 9 government expenses, these data show a 199 199 199 199 199 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 10 1994 contraction of the private sector, rendering 0 the previous government’s end-of-year growth forecast of 1% impossible. -10 Euro area economies are affected not -20 only by the performance of other member countries but also by the general political -30 situation. Although the so-called “phase Source: Eurostat three” economic sanctions on Russia will probably entail fewer costs for France than cover €47.3 billion in interest, as 2.3% of for other big economies of the Eurozone, the country’s GDP (according to Eurostat). the close economic relations between Paris Sluggish growth and uncertainty in the and Moscow (especially in the financial and private sector have had consequences for energy sectors) could be a source of risk if the job market. The unemployment rate, the political situation in eastern Ukraine although considerably lower than in Italy deteriorates further. or Spain, remains relatively high, especially All of these are worrying signs. The among youth (22.4% in June 2014). This is French economy – the second largest in the becoming a major predicament for the gov- Eurozone – has close trade and financial ernment and a personal one for President ties with other Eurozone members. This Hollande. During one of his first speeches raises concerns over the possible impact of after the elections he portrayed himself as economic problems in France on Eurozone the “president of the youth” and raised ex- stability, and over realistic options for the pectations among his youngest supporters current or next government majority to by promising change in the job market address these issues. situation. The slow, ongoing recovery throughout the Eurozone is only modestly apparent in Limited scope of reforms the general condition of the French econo- President Hollande won the presidential my. The most recent economic data an- elections in May 2012, when the Eurozone nounced in August 2014 were a serious crisis was still in full swing. He promised to change economic policy by reinforcing pro- Figure 2 growth policies, and to improve the situa- French GDP Volume – Percentage Change over Previous Quarter tion of the French labor market. These reform attempts were immediately 0,8 hampered by a noisy battle over the 75% in- 0,6 come tax rate for France’s richest citizens, 0,4 promised in the electoral campaign. The “tax on the rich” debate also failed to secure 0,2 popular support for the government, which -1E-15 started rapidly decreasing as the general -0,2 public demanded concrete steps to improve the economy. -0,4 Broader reform proposals have been -0,6 2012Q1 2012Q2 2012Q3 2012Q4 2013Q1 2013Q2 2013Q3 2013Q4 2014Q1 2014Q2 presented on several occasions as “pacts”, but these have not gone far enough to de- Source: Eurostat. liver a coherent, systemic solution to the SWP Comments 39 September 2014 2 Figure 3 Confidence in President François Hollande, May 2012 – September 2014 100 Lack of Confidence 80 60 40 Confidence 20 Undecided 0 May 2012 Sept. 2012 Jan. 2013 May 2013 Sept. 2013 Jan. 2014 May 2014 Sept. 2014 Source: http://www.sondages-en france.fr/sondages/Popularite/Fran%C3%A7ois%20Hollande country’s structural problems. First, the employment tax credit), the aim of which “Pact for the Competitiveness of French is to reduce social charges for companies Industry”, prepared by a working group led by €20 billion within three years. by Louis Gallois and published in November The appointment of Manuel Valls as 2012, focused on French industry as the Prime Minister in March 2014, after the main factor of economic growth, and deliv- shocking defeat of the Parti socialiste (PS) ered a list of 22 rather diverse proposals to in regional elections, was intended to add boost competitiveness and exports. Although fuel to the reform program. He announced President Hollande had distanced himself further cuts of labor costs for the lowest- from the report even before its publication, income employees and a reduction of the some of these same ideas were included in income tax surcharge for the largest com- the “National Pact for Growth, Competitive- panies. He achieved some initial successes ness and Employment”, announced a day when the National Assembly voted for €50 later on November 6, 2012 by then Prime billion in budgetary cuts and simplified the Minister Jean-Marc Ayrault. The pact’s main country’s complex administrative structure goal was to reduce social charges for the by decreasing the number of regions. business sector, facilitating access to capital However, the rather limited scope of for small and medium-sized enterprises and the proposed measures and their slow simplifying regulations for the business implementation are unlikely to produce sector. any major effect on the French economy, The most recent (and still ongoing) especially on the labor market, before the reform measures were unveiled as part of elections in 2017. More than half of the the “Responsibility Pact”, personally an- proposed spending cuts still need to be nounced on January 14, 2014 by President specified, which could trigger an angry Hollande. This pact aims to increase em- reaction from trade unions. Therefore, the ployment in the business sector by reduc- execution of the adopted fiscal consolida- ing labor costs, company taxes and red tion program remains highly uncertain. tape. The pact was supplemented in April Moreover, the outcome of the CICE flagship by a social pillar aimed at reducing the tax project, introduced at the beginning of burden for the poorest households. The 2013, is also questionable. Limiting tax flagship project which both pacts are related reimbursement to employees earning up to to is the CICE, le crédit d’impôt pour la com- 250% of the minimum legal wage has prob- pétitivité et l’emploi (competitiveness and ably not benefited companies exporting for SWP Comments 39 September 2014 3 international markets, as much as it has Why is reforming France an benefited large domestic firms employing uphill battle? low-qualified workers, such as large retail History shows that skepticism regarding groups. Due to the long duration of the reform options in France is nothing new. legislative process, several measures an- Past attempts to unblock the French econo- nounced in the “Responsibility Pact”, such my abound – some of them dating back to as corporate tax cuts, are unlikely to be the early 1960s, like the report by the Rueff- introduced before the end of the current Armand Committee which proposed re- political term. inforcing competition and limiting the In addition, in August 2014 the consti- number of restricted professions. There are tutional court questioned the €2.5 billion also many other layers of resistance which reduction of social charges for the 7.4 mil- explain the difficulties of reform processes.