Sovereign debt level causes new political headache in France

As the European Central Bank (ECB) suggests that an increase in interest rates is no longer taboo, the issue of reducing public debt is back on the French political agenda. EURACTIV France reports.

French public debt levels are reaching record-high levels at 115% of GDP, almost 20 points higher than in 2019. French economic growth projections, which were expected to maintain a steady recovery after two years of pandemic, are now being revised down to 2.6% in 2022, from 7% last year.

The war in Ukraine has shattered any hope of a return to normal economic activity. Given that inflation is taking hold (5.2% year-on-year in France in May 2022) and that the US Federal Reserve (Fed) has already raised base interest rates, the issue of debt management ahead of the French legislative elections next week is becoming critical.

“Unlimited and costless” debt

Lowering interest rates was at the heart of the monetary policy toolbox used to stimulate the economy after the 2008 economic crisis. Since 2015, ECB rates have stood at zero, meaning that borrowing to finance the functioning of the state, the national healthcare system (Assurance Maladie) or local authorities cost virtually nothing.

The French public debt, which was around 65% of GDP in 2008, rose to 98% in 2019, before the COVID-19 pandemic hit. According to the French central bank governor, François Villeroy de Galhau, this led governments to believe that debt had become “limitless and costless”.

As the pandemic struck, debt levels continued to grow in an effort to finance a wavering economy, while French President Emmanuel Macron pledged to revive the economy “whatever it takes”. At the same time, the European Commission granted member states the right to bypass budgetary constraints defined in EU treaties.

The objective was clear: borrow as much money as necessary at no cost before growth picks up again once the worst of the pandemic is over. At the time, economic actors expected that the ECB would not want to raise interest rates, in an effort to spur economic growth.

A new era of austerity?

The war in Ukraine has undermined this objective, adding to already-existing “inflationary pressures” starting in the second half of 2021, according to Villeroy de Galhau.

Faced with soaring prices in the US, the Fed has already raised rates, thereby “forcing the ECB’s hand” to do the same before the summer, Andreas Eisl, an economist at the Jacques Delors Institute, told EURACTIV.

Nevertheless, he said that there is no crisis situation in the short to medium term “as long as rates do not explode”. While growth is slowing down, the risk of recession remains low.

Eric Toussaint, an economist and spokesman for the international network of the Committee for the Abolition of Illegitimate Debt, takes a different view. He believes that a rise in interest rates is particularly alarming.

“Within 3 to 5 years,” he told EURACTIV, “the cost of debt refinancing will explode. We can expect a return to austerity in the next five years.”

“Talking about inflation and interest rates is the last thing Macron wants before the legislative elections. He’s doing everything to make sure that Christine Lagarde [ECB President] doesn’t raise rates before the elections.”, he added.

Economic growth or debt write-off?

While economic topics have so far been dominated by the war in Ukraine and purchasing power, the issue of debt management is now gaining momentum.

“The best way to reduce debt is to have very strong economic growth,” said Eisl. The newly-elected French government seems to agree, as it has committed to €50 billion worth of new spending on education, green transition and health, as well as a €15 billion corporate tax cut.

Economy Minister Bruno Le Maire outlined the government’s economic strategy around three pillars: controlling public spending, supporting investment and innovation to reach full employment, and finalising the pensions schemes reform to put public finances back onto a sounder footing.

“The aim is to start reducing debt levels by 2026,” Le Maire told French public radio on Wednesday (June 1).

French radical left party La France Insoumise (LFI), on the other hand, is more concerned with renegotiating existing debt.

While the unexpected new alliance of left-wing parties called NUPES (New People’s Ecologic and Social Union), formed on the eve of the legislative elections, confirms its willingness to go against European Treaties when and where required, LFI’s leader Jean-Luc Mélenchon wants to “demand from the European Union that the ECB buys European sovereign debt back” – essentially a debt write-off.

A similar view was expressed by Toussaint, who sees the government’s announcements as the beginning of a new era of austerity. He believes that a debt write-off is the only viable option. “25% of European public debt is held by the ECB. If it writes it off, then European governments will have more budgetary room to invest in climate and health.”

As for the conservative Les Républicains (LR), the time has come for the “rationalisation” of public accounts. Valérie Pécresse, LR’s unsuccessful candidate in the presidential election, accused Macron of having “burned up the treasury”.

“You have to bear in mind that the debt is tomorrow’s taxes”, she told Décideurs Magazine last April.

[Edited by Zoran Radosavljevic/János Amman]