SUMMARY. Problems with Greece, Spain, even Italy, are out in the open. It is the problem just out of sight which is most worrying – the lion in the long grass. This is France.
Last week was the 5th anniversary of the start of the ‘Credit Crunch’ (triggered in France by BNP Paribas), which in turn led to the ‘Great Recession’. Now France is moving centre stage, largely unnoticed, in the latest leg of the rolling global financial crisis.
In the latest exclamations from eurozone leaders (the “we will do whatever it takes” variety) there has been no mention of Greece. We think it is a strong possibility that Greece will exit the eurozone in the next few months. That won’t be a surprise.
Greece is in the open, Spain is also in the spotlight, and Italy is not far behind. But it’s the lions in the long grass, the ones you can’t see, that are the big worry. And so it is with investment too. It is the problem just out of sight which we consider here. France is the lion in the long grass.
The growing antagonism between France and Germany is well documented, but the new French President, Francois Hollande, appears to be playing out a bizarre fantasy. For example: The pension age has been lowered (not increased), and the minimum wage has been increased (not reduced). A top rate of income tax has been introduced at 75%, resulting in wealthy French swamping the central London property market.
Hollande may know how to work the political system, but, as one analyst put it, “he has the economic understanding that God gave a goose”.
Margaret Thatcher said that “The problem with socialism is that eventually you run out of other people’s money”. France is working hard to prove her right.
The level of debt in France is not hugely different from the US or UK (though it has already endured nearly 40 years of consecutive fiscal deficits). The big difference is the lack of political will to change. As fund manager Hugh Hendry recently put it “We have reached a profound point in economic history where the truth is unpalatable to the political class”, and nowhere is this more true than France.
This was reflected in a recent IMF paper illustrating the path of a number of countries’ projected debt-to-GDP ratios in the years ahead. If no debt reduction action is taken, the graph illustrating debt growth in France is on a remarkably similar trajectory to, you guessed it, Greece.
If unemployment is to fall, private businesses must believe in a better tomorrow – but Hollande is launching an assault on the private sector.
The Germany-France axis that holds the EU together (not just the eurozone) is breaking down.Hollande is determined to follow a crazy populist path, Frau Merkel is not.
As another analyst set out recently: Hollande wants Eurobonds, Merkel says no. Merkel wants tighter political union, Hollande says no. Hollande wants more stimulus, more government workers, greater barriers to sacking workers; Merkel disagrees on all fronts. The list goes on.
The problem for investors is that this slow motion train crash is boring, and the risk is that you avert your gaze, or just nod off. Don’t. The most obvious outcome of all this will be French bond yields rising sharply, followed by sharp falls in their stock market, just as in Greece, Spain and Italy. And the consequences cannot be confined to Europe.