Can Anyone Fix This Country?

As an aimless teenager, Lionel Basset was shunted into a French metalworking school. He found it monumentally boring and dropped out at age 17. Now 21, he has worked just a few weeks at odd jobs since then. Most days, Basset hangs out in cafes with unemployed friends or roams the streets of Saint-Denis, a grimy Paris suburb. He is angry. "I was very badly guided in school," he says, leaning against a graffiti-covered wall. "Nobody in France cares about the young."

On Apr. 23, Basset voted in the first round of France's presidential elections. His candidate: Socialist Lionel Jospin--"the only one who might change things," he says. Jospin stunned pollsters by coming in first among nine candidates, ahead of the favored Gaullist conservative, Jacques Chirac. Yet four conservative candidates jointly won 60% of the vote. So barring an upset--always possible in this surprising campaign--second-place Chirac should win a May 7 runoff to succeed Socialist President Franois Mitterrand.

Chirac--or Jospin--will be taking the reins at a critical moment for France and for Europe. After 14 years under Mitterrand, France has lost its way. It is tormented by political and business scandals. State deficits have soared. The French can't decide what shape they want for a united Europe. Worst of all, the economy, despite some impressive strengths, cannot create enough jobs. Unemployment of 12.3%--an alarming 25% for those under age 25--is a time bomb. It seems the old economic and political ideologies from both left and right no longer have the answers.

Many economists and business leaders know what France needs: a drastic overhaul of inflexible labor laws, an end to government control of large corporations, a vibrant private pension system, and a taming of a free-spending state sector that, in the words of economist Christian Saint-Etienne, has become a "monster, a national catastrophe." Yet if France's new leader can't implement radical measures, his seven-year term may mark a dramatic decline in the proud country's economic status and in its influence in the world.

SHORTER WORKWEEK? Investors fear that Chirac and Jospin are proposing remedies that could sink France further into a financial hole. To encourage hiring, Chirac proposes a cut in employers' onerous payroll taxes. Most think this is a good idea. But it would cost the government badly needed revenue, and Chirac has not proposed any spending cuts to compensate. Jospin, a traditional Socialist, envisions a massive public-works program and a two-hour cut in the workweek, to 37 hours, that he says would create 400,000 jobs.

Either approach may lead to higher deficits and a weaker franc. That would be a huge setback after eight years of hard-won monetary stability that have lowered inflation to under 2%. France's deficit still reached 5.6% of gross domestic product last year, far above the 3% limit required for European monetary union by decade's end. A French failure to qualify for monetary union could kill a single European currency and be a major reversal for tighter European union.

Such concerns led traders to hammer down the franc in late April. In response, Chirac vowed allegiance to le franc fort--a strong franc. Yet there are doubters. A weaker franc is inevitable, says Steven H. Nagourney, chief global strategist for Lehman Brothers Inc. "If the new President doesn't devalue," he says, "the market will do it for him."

While worrying about the markets' reaction, the new President faces the prospect of social unrest if he makes major cuts in pension and health-care benefits. Likewise, France's homeless and long-term unemployed--dubbed les exclus--could become an explosive force. Like Lionel Basset, many are young and live in working-class ghettos, and they may soon vent their rage.

FOOLISH STAKES. Plenty of French industrialists blame excessive state regulation for locking the unemployed out of the job market. "There are too many rules in France," complains Peugeot Chairman Jacques Calvet in his small, sober office near the Arc de Triomphe. Take tiremaker Michelin. It's trying to boost output of truck tires, but it's stymied by a ban on running French factories more than five days a week. After a long effort, Michelin has won government permission to operate an automated plant nonstop--for one year. But its four conventional factories must close on weekends, to protect workers' leisure.

The intrusive state power that hobbles Michelin and other companies is wielded not just by politicians but by a corps of elite bureaucrats who run many top companies. This tradition saddles industry with inexperienced managers, yet mercifully for France, this elitist system may be cracking. The biggest fissure came from the recent $27 billion bailout of state-owned Credit Lyonnais. Europe's biggest bank almost collapsed after taking foolish stakes in French companies at government behest and making risky loans that smacked of political favoritism. Andre Levy-Lang, management board chairman of Compagnie Financire de Paribas says this debacle has knocked the technocrats off their pedestal: "These errors have won us 10 years in changing mind-sets."

True, but other state practices remain deeply entrenched. The government has poured billions in state funds into such sinkholes as computer maker Groupe Bull and Air France, with nothing to show for the effort but companies that still need wrenching restructuring. Former Prime Minister Raymond Barre says the French penchant for postponing the inevitable reminds him of a famous countess waiting at the Revolutionary guillotine. She implored her executioner: "Please, monsieur, just one more minute."

Yet beneath its problems, the world's fourth-largest economy has a lot going for it. It has Europe's lowest inflation, good productivity, a positive trade balance after 15 years in the red, and lower labor costs than Germany. Mercedes-Benz recently picked France over Germany for its newest car factory. "I believe very much in French productivity and reliability," says Mercedes' CEO, Helmut Werner.

Those strengths flow from a massive industrial restructuring in the 1980s, when the French rightly feared that competition in Europe's single market could destroy them. Companies automated factories, and the government allowed big layoffs for the first time. Renault's biggest plant now makes the same number of cars with 8,302 employees as it took 22,700 workers to build 20 years ago.

HIRING AND FIRING. Yet there's a fragile side to this success. France's forte is commodity products--aluminum, steel, cement, glass--rather than high value-added items. French weakness in high tech is another worry. It flows partly from a shortage of entrepreneurs, and therefore of midsize companies along the lines of Germany's Mittelstand. Critics fault cerebral French education for putting Proust above profit. Another cause is the lack of private pension funds, which in the U.S. have provided billions in equity capital for established companies and startups.

The biggest French failing, however, is unemployment. Deregulating the process of hiring and firing could do wonders to create jobs. "The difficulty eliminating jobs makes you hesitate to hire," says Peugeot's Calvet. A company that wants to reduce its workforce usually needs government permission and must give around 18 months' severance pay. Water bottler Perrier tried to cut 600 jobs recently to boost efficiency. Bureaucrats said non.

France made an important decision in the 1980s: to open its economic borders to Europe and the world. So far, however, the French can't quite accept the ramifications of that move. France's new leader must finish the overhaul of his country's outdated economic approach. With luck, the disillusioned youths at the gates of Paris will allow him time to do that.

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