France breaks budget promises once again and the EU’s finance offices are shaking

François Hollande, giving the French Legion of Honour to José Manuel Barroso at the Elysee Palace in Paris (EC Audiovisual Services, 9/07/2014)

Last Wednesday, just two days before Eurozone’s finance ministers met for informal talks in Milan, the news had come in: France will not achieve a 3% EU budget deficit target this year. During a conference in Paris, the French finance minister Michel Sapin said that the country’s budget deficit will be around 4.4% of GDP in 2014 and will not go below 3% until 2017, allowing just a slight drop to 4.3% next year. Obviously this announcement had some impact on Milan talks as will hit the general feeling about a quick recovery for the EU’s economic situation. That was absolutely predictable though.

France has already missed a number of budget deficit targets. It had missed a 2013 deadline and got a two-year extension, until 2015, from the EU finance ministers. Paris was expected to bring its budget deficit below the EU cap of 3% of GDP next year, after exceeding the limit for six years in a row. Mr Sapin also lowered the country’s growth projections for this and next year. Projections for growth were lowered from an estimate 1% to 0.4% in 2014, and down from 1.7% to 1% in 2015.

On top of that the announcement was indeed the last of a number of statements by the French government that it was struggling to maintain its deficit commitments, along with calls for the European Union to have more flexibility applied in its Stability and Growth Pact mechanism. On top of that, many analysts warned about the risks of another budget promise break in August, right after Moody’s announced this chance and branded France’s fiscal performance “significantly weaker” than top-rated countries’ one. Expected or not, the news generated some veiled criticism in Milan’s meeting rooms on Friday and Saturday, with EU senior financial officers reportedly remarking the sacrifices that other countries had to make to get their finances in order.

This huge back step of the second largest economy of the Eurozone is clearly another round of the whole hot debate on the effectiveness of the “austerity way” or the benefits that a more “flexible approach” would bring to the system. I would dare to say that this is a very important case indeed, as it might be a turning point in the evolution of the EU fiscal rules.

During the EU’s economic crisis the general decision was to enforce the 3 per cent rule and to keep austerity as the main way of executing it. As widely known Germany is one of the main supporters and guardians of the austerity way, with Chancellor Angela Merkel repeatedly saying that respecting the 3% deficit target is the only way to promote growth within the 28-member currency zone. The feeling now is that France’s fiscal issues are a source of deep concern in Berlin, who fears Paris will not take difficult economic decisions. Also the case of France’s economy is seen as the last resort to confirm the bloc’s fiscal regime and to guarantee that the Commission as the ability to enforce the rule book for real.

The latest budget deficit may cause issues to France’s President Hollande on the political side as well. He is already highly unpopular in his country and this matter may represent another heavy blow to his credibility. Last year he predicted a recovery in 2014, but the country has continued to struggle with high unemployment and stagnant growth.

Mr. Hollande and Mr. Sapin are pointing their finger to a broader lack of growth in Europe as the main reason of France’s results. Sapin said “an economic reality that concerns all of us” needs to be taken into consideration. In an interview at Le Monde earlier this month Mr Hollande said: “We implement the announced reforms, but the pace of efforts to reduce the deficit also depends on growth”, as reported by the Financial Times one month ago.

The French President has lobbied alongside the Italian Prime Minister, Matteo Renzi, for a much more flexible approach by the EU commission on the GDP/debt rules (Italy’s GDP growth is forecast to be zero this year) and he is expected to maintain this course of action.

Minister Sapin told on a news conference that France was not asking for any change in the European Union’s rules on budget limits anyway. The debate continues, as the European Union’s incoming commissioner for economic and financial affairs, France’s former finance minister Pierre Moscovici, referred to the missed budget deficit target as a “serious problem”.