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And Now

And Now
 Eric Chaney
Expert Associé - Économie


President Macron and Prime Minister Edouard Philippe stand to benefit from a few tail winds on the economic front. They will run into some storms as well, as the new President did during his rainy inauguration day. As for the former, strenghtening business cycle trends, the sight of relief felt by France?s Eurozone partners and its consequence, a positive bias, and, last but not least, the confidence generating political dynamics Emmanuel Macron has been able to generate. In the latter, the risk of a strong social opposition and the weaknesses of his euro zone governance project.

Let’s begin with economic conditions. Business confidence indexes derived from INSEE (National Institute of Statistics and Economic Studies) surveys are at their highest marks since April 2011, just before the beginning of the crisis of confidence around Italian politics, and then about the euro zone itself. The same holds for France’s main trade partners, Germany and even Italy, which is a recent and important development. The sustaining of an expansive monetary policy by the European Central Bank, the depreciation of euro, and, in the case of France, tax credits and payroll tax cuts designed to restore corporate profitability, have begun to produce real effects. Assuming there is no unforeseen disruption of the global economy, these powerful economic levers should continue to fuel growth within European economies for the next 12 to 18 months going forward.

French business confidence has improved across sectors. In manufacturing, this has for the most part stemmed from exports and the capital goods sector. Moreover, industrialists surveyed by INSEE have revised their fixed investment plans upward by one point, now expecting investment expenditures to increase by 6% in 2017. In services, scientific and technical activities, as well as hotel and restaurant industries are briskly expanding. Finally –and this matters for employment—the construction and public works sector is getting better with a spectacular surge of demand in public works and, according to real estate developers, steadily rising housing demand and prices. Against this backdrop, it comes as no surprise that the European Commission has revised its growth projection for France to 1.4% for this year. Besides, actual GDP growth is likely to be stronger than current forecasts are suggesting, especially if the first measures carried out by the new cabinet are favorable to businesses and quickly implemented.

Now that he has staved off the anti-European, nationalist policy project of Marine Le Pen, and because his own platform is resolutely reformist and pro-European, President Macron will benefit from an a priori trust among France’s main European partners, starting with with Germany and the European Commission. This is precious: hints about his 2018 budget plan suggest an expansionary policy, due to the impact of a corporate tax credit (CICE or Competitiveness and Employment Tax Credit) coupled with the permanent payroll tax cuts that will soon replace it. Under other circumstances, France, which has not earned a strong reputation in Brussels regarding its fiscal commitments, would have been at pain selling an expansionary budget. France’s partners know it all too well: the primary weakness of the French economy and one of the reasons for its endemic tendency towards protectionist policies is the rigidity of its labor market. In this regard, President Macron’s trump card is that he has deliberately put the labor market at the top of his list of reforms. The ambition and coherence of his plan should help him convince his partners that they would have better giving France some fiscal leeway.

The risk of storms is by no means negligible. Already, opposing political forces of all stripes as well as some labour unions are mobilizing to block reforms attempting to make the labour market more flexible. We often hear that the difficulty in passing the labour bill (dubbed El Khomri bill) last year, which was precisely aiming at that, rested in ill designed communication and poor pedagogics. This is possible. Therefore, to complete and broaden the reform, as candidate Macron announced, the new President must prove himself with the same strategic finesse we’ve seen from him thus far, and his cabinet must make significant progress in the art of dispute and pedagogy. At its base, the point is clear but difficult to hear: if French companies are to hire more, if France wants to be more than a self-proclaimed “land of startups” doomed to be bought out or disappear, if the country is to allow its businesses to grow, then it must make it easier to lay off workers. Having a clear vision of the end goal, what one might call “flex-security,” or a “social market economy” (the social-Christian model of Ludwig Erhard) applied to the labour market, President Macron can sustain the political dynamics that got him elected. He can achieve this on one condition: he must master the difficult passage from plans, how smartly designed they may be, to execution, without giving in to vested interests and demonstrations.

While a social storm is to be expected this coming summer, cross-currents associated with the reform of euro zone governance are bound to emerge later during the mandate. Candidate Macron advocated for a significant dose of fiscal federalism, with a parliamentary representation for the euro zone and a euro zone minister of finances in charge, among other things, of a common budget. So long as it is kept to this degree of generality, the plan may receive support and sympathy from those of our partners having the financial strength that has made them the backers of the euro, starting with Germany.

But when we get into the details, difficulties will unavoidably emerge: which common taxes, for which common expenditures' How will the euro zone budget be funded – by national budgets and debt issued by each participating country, or by issuance of Eurobonds, meaning joint and several liability bonds' An even more fundamental question will rise to the surface: to what degree could this fiscal federalism help resolve the structural problems of the euro zone, which are rooted in the heterogeneity of its labor and housing markets, jurisdictions and jurisprudences' How could a euro zone Finance Minister have prevented the euro zone crisis' Back in 2005, would he or she have had the authority necessary to force Spain and Ireland to deflate their housing and construction bubbles before the point of no return' Would he have had the capacity to force Greece and Portugal to check their spiraling public expenditures, consequence of the removal by the financial markets (wrongly, for sure) of the risk premium these countries had to pay before joining the euro? Simply asking these questions is enough to show that it will be difficult to obtain a consensus on the subject.

For the moment, as the legislative elections draw near, the political debate may tend to concentrate on the tokens attached to the French welfare state: the 35-hour week rather than increasing the labor market’s flexibility, the retirement age rather than reforming our system sustainably and in depth, the compared benefits of the CSG (a flat levy on all incomes designed to fund welfare transfers) and the VAT rather than a global reduction in taxes… while forgetting the more fundamental questions. But you can count on the Montaigne Institute to focus on them!

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