France's Hollande May Roll Back Spending Promises

Tuesday, 08 May 2012 12:43 PM

 

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France's Socialist president-elect Francois Hollande may use a summer audit of state finances to water down his generous campaign promises rather than risk a backlash from financial markets against stubbornly high deficits and rising debt.

Advisers say he could even freeze some spending if the review turns up any nasty surprises, soothing investors who are worried he has become the figurehead for a fight against German-imposed austerity in the eurozone.

Hollande, due to take office next week after toppling President Nicolas Sarkozy in Sunday's election, dismayed analysts with his campaign spending promises, such as hiring 60,000 school staff and creating 150,000 state-aided jobs.

France already has one of the highest levels of public spending in Western Europe, at around 55 percent of GDP, and has not balanced its budget since 1974.

But Hollande, a 57-year-old graduate of France's elite ENA civil service school, together with other Socialist leaders has already been discretely preparing the ground to play a more cautious game.

"There are certainly deficits, things hidden in the shadows," Jean-Marc Ayrault, the Socialists' parliamentary leader and a candidate for prime minister, said of the audit.

"We will discover the reality and strike a balance between fostering growth and making the necessary efforts to reduce the debt."

Those close to Hollande are now urging him to use the review by the country's top audit body, the Cour des comptes, as a justification for lowering his growth forecasts for the eurozone's No.2 economy, widely seen as too optimistic.

Advisers are pressing him to pare back spending in certain areas, particularly the deficit-ridden social security system, and to raise taxes by eliminating widespread exemptions and raising the CSG welfare charge on income and capital revenues.

"There are holes in the program on the spending side and we will be obliged to take action," said one long-standing advisor, who asked not to be identified.

WINDOW OF OPPORTUNITY

The situation is delicate for Hollande after he promised change to voters tired of unemployment running at 12-year high of nearly 10 percent and talk of spending cuts.

Sarkozy, despite his tough rhetoric, took only tentative steps to putting France's finances on an even keel and the country was stripped of its prized triple-A credit rating by Standard & Poor's on his watch.

In a strongly-worded report in February likely to presage its summer findings, the court, a quasi-judicial body, said at the current pace it would take 10 years to eliminate the deficit, which ended last year at 5.2 percent of gross domestic product. It said public debt was approaching a "danger zone" of 90 percent of GDP.

With markets edgy, the Socialists will have to be careful how they manage the Court's report. In February, Spain's new conservative government sent shockwaves through eurozone markets after it uncovered a worse-than-expected deficit of 8.5 percent of GDP from its Socialist predecessor.

"It will certainly not be on that scale but the Court of Audit always finds some bad surprises," Jerome Cahuzac, the Socialist head of the National Assembly finance committee and a possible candidate for budget minister, told Reuters.

Aware of the political risk of angering left-wing voters, Hollande's advisers say he must act within two months of taking office on May 15, allowing the Socialists to point the finger at Sarkozy's outgoing government.

Any announcement would likely be after June 10 and 17 parliamentary elections, essential for Hollande to gain a working majority for legislation.

"We have a window of opportunity, but it has to be done quickly," said a second Hollande advisor.

UNION TIES

Some economists have warned that the election of a tax-and-spend Socialist, with no agenda for much-needed structural reform in France, could plunge the heart of the eurozone into disarray as the situation deteriorates in Spain and Greece.

But Socialist heavyweights have emphasized they will be fiscally responsible, as well as planning reforms to improve France's flagging competitiveness — though these do not include the German-style wage restraint which Sarkozy advocated.

"No one can expect us to arrive and give everyone handouts. That is not the reality of the situation," said Michel Sapin, who oversaw Hollande's program and is tipped as a future finance minister. "Joy...gives way very, very quickly to responsibility."

The Socialists say research and innovation, production quality, speed and flexibility are more important than cutting wages, which could hurt domestic consumption.

While Sarkozy clashed head on with France's powerful unions, the Socialists' closer ties with them — particularly the moderate CFDT — may allow them to accomplish bolder reforms.

Hollande wants a deal on an overhaul of the retirement system at a conference with unions in the autumn, to put the loss-making system permanently in the black. Socialists say this could vastly improve state finances with no short-term negative impact on growth.

In the meantime, financial markets — jittery after Greece's weekend elections cast its future in the eurozone into doubt — will impose a financial corset on the Socialists.

With debt forecast to peak at nearly 90 percent of GDP next year, France is already paying out around 2.5 percent of GDP in interest payments, even with interest rates at record lows. This would spike much higher if the markets lost faith in France.

GROWTH TOO OPTIMISTIC

To keep his promise to balance the budget by 2017, Hollande wants to find 100 billion euros: half from new revenues and half from limiting growth in public spending to 1.1 percent per year — a small cut once inflation is taken into account.

But his plans are based on optimistic growth assumptions of 1.7 percent of GDP next year, rising to an average 2.5 percent after 2013. France's trend growth rate for the last 20 years has been 1.6 percent, and economists expect that to dip to 0.9 percent this year.

"The Court is not going to find any big holes in government finances because national accounting in France is very serious, but the problem will be the growth: the forecasts are too optimistic," said the second adviser.

Going on past form, the Court will recommend a mix of tax rises and spending cuts to plug the deficit. It has also said the social security system deficit was unprecedented in Europe and must be cut by trimming spending.

Such considerations may influence an extraordinary session of parliament in July which Hollande is due to convene to pass a revised 2012 budget and a medium-term spending plan.

The month-long session is scheduled to pass legislation ending several tax exemptions, imposing tax surcharges on banks and oil companies, approving a top tax rate of 75 percent for the wealthy and quashing a social VAT introduced by Sarkozy.

© 2014 Thomson/Reuters. All rights reserved.

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