Hollande Readies Shift From Campaign Pledges to Deficit Reality

After months of electioneering, President Francois Hollande faces the task of telling the French that the state’s depleted coffers may mean belt-tightening.

In the weeks since his election on May 6, Hollande, 57, unveiled populist measures, delivering for his Socialist Party a parliamentary majority in yesterday’s legislative elections. The victory has given the Socialists control of practically every political institution in France -- the presidency, the upper and lower houses of parliament, all but two of the regions and most of the country’s big cities, communes and departments -- a first for the party in the Fifth Republic.

With growth stalling, Hollande may need to put in place higher taxes and cuts in spending as he makes good on his deficit-cutting promises. The French may be in for a shock after vote-winning pledges to boost the minimum wage and reduce the retirement age for some workers lulled them into believing they may escape sacrifices made elsewhere in Europe, said Dominique Reynie, a professor at Sciences Po in Paris.

“The turnaround the French are going to have to make is going to be very, very sharp,” he said. “No European country is less prepared to make economic sacrifices than France.”

In the face of a regional debt crisis that has pushed up borrowing costs and forced Greece, Ireland and Portugal to seek international aid, countries across Europe have tightened their belts to reduce deficits and reassure bond investors. Hollande’s deficit-reduction pledges have helped push French bond yields to record lows.

European Austerity

In Italy, the euro area’s third-largest economy, Prime Minister Mario Monti has introduced new property taxes, higher gasoline taxes, raised the retirement age and made the pension system based on contribution. In Spain, the government has slashed public wages, increased income taxes and cut spending on services, including education and health care.

Even in the U.K., which isn’t part of the euro area, the government has raised the sales tax and restrained spending, while Germany, Europe’s largest economy, is benefitting from tax increases and wage restraints put in place before the crisis.

“The French are sort of on a cloud compared with Italy, the U.K, Spain, even Germany,” said Ludovic Subran, an economist at Euler Hermes in Paris. “There’s been post-election euphoria, but there’s work to do.”

Yesterday’s French legislative elections coincided with a vote in Greece, where exit polls showed the two largest parties who agree to the conditions of European aid gaining a majority.

Populist Measures

Meanwhile Hollande has rolled back an increase in the retirement age for some workers, promised a “little push” for minimum wage earners, laid out plans to hire 60,000 teachers and put in place a tax rate of 75 percent on income above 1 million euros ($1.27 million) a year.

Last week, his Finance Minister Pierre Moscovici unveiled plans to cap bosses’ compensation at state-controlled entities such as Electricite de France SA to 450,000 euros. The decree, to be released by the end of July, is aimed at capping compensation at 20 times the lowest wages in the companies.

With French growth at zero, opposition lawmakers wrote to Hollande last week criticizing him from hiding economic reality from the population.

“Perhaps you have succeeded in anesthetizing our fellow citizens,” lawmakers Gilles Carrez and Philippe Marini said in a letter to the president. “But you now have to face reality. That will be certain disillusion for those who believed in your promises.”

Economic Slump

France’s gross domestic product failed to grow in the first three months of the year and the Bank of France predicts that Europe’s second-largest economy may shrink in the current quarter for the first time since the nation exited recession in 2009. French jobless claims rose for a 12th month in April to 2.89 million, the highest in 12 years.

The lack of growth means that budget cuts will probably have to be deeper than previously estimated. The European Commission said May 30 that France may need to take “significant” steps to meet its target of reducing the budget deficit to 3 percent of GDP next year.

Hollande’s own ministers are starting to warn of the difficulties that lie ahead.

“You think I’m optimistic?,” Labor Minister Michel Sapin said last week on Canal Plus television. “To be optimistic today is to deny reality. Will it be easy to get out of this debt situation? No it can only be done with effort.”

Bond Rally

So far, bond investors have given Hollande the benefit of the doubt, driving French bond yields down to record lows even as neighboring Spain and Italy have seen their borrowing costs surge. France’s benchmark 10-year bond now yields about 2.6 percent and the treasury sold such securities with a yield of 2.46 percent on June 7, the lowest ever.

“Hollande was not expecting a honeymoon but he is enjoying the closest thing there is to one at a time when France’s economy is flat on its back and the euro zone is at risk of falling apart,” said Nicholas Spiro, of Spiro Sovereign Strategy. “We remain wary of French debt.”

Hollande will start tackling the issues in coming weeks, with the national auditor due to report on the state of the government’s finances in early July, followed by a new budget. Hollande will also meet with unions and business leaders on July 9 to broker an increase in the minimum wage, youth unemployment and reviving French industry.

“We’ve procrastinated for quite a long time on addressing the budget,” said Euler Hermes’s Subran. “There is a lot of work to be done. It’s significant but doable.”

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