The French Markets Cast A Vote

They're betting that no matter what happens in the election, France will stay on a course of fiscal austerity

The Paris Bourse is on a roll. Since President Jacques Chirac dissolved France's National Assembly and called a snap election for May 25, it has soared nearly 9%. Funny thing is, there would seem to be little to celebrate. Chirac will find his center-right coalition's massive 175-vote majority sliced deeply in the election's wake. Initial polls had even suggested that a volatile and angry French electorate could flock to Lionel Jospin's Socialist Party and topple Prime Minister Alain Juppe's government. Although Chirac's team will probably win, the economy is headed for the status quo, at best, not the "new start" Chirac wanted.

Still, the markets like that. Why? Because there is a growing realization that this election will take the bulk of French economic policy out of the hands of political promise-makers for the next few years. The economy will be on autopilot, flying above the political turbulence that has rocked it since Chirac took over. Investors seem to be betting that France's quest to qualify for European Monetary Union in 1999 will guarantee austerity. So Jospin's pledges to create 350,000 new public-sector jobs and Juppe's telling voters their days of hardship are over can be discounted. "I don't see how any government can avoid cutting taxes, privatizations, and lowering employer charges," says a senior government official.

HARD CHOICES. By advancing the elections, Chirac also has sidestepped a future political shootout that would have upset markets. Had Chirac stuck to the original election script, the National Assembly vote would have been held in May next year, just as detailed negotiations about EMU and adoption of Europe's single currency, the euro, reached a crescendo. That could easily have touched off a divisive debate and risked tearing France apart, especially if unemployment rates remain at 13% and growth at a lackluster 1.5%.

All the same, Chirac wants to push forward with a program that will cope with France's chronic subpar economic performance. The scuttlebutt in Parisian salons is that firebrand conservative Alain Madelin might return to government. Madelin was sacked as Finance Minister in August, 1995, for overzealous pursuit of reform. And to his credit, Chirac has used the campaign to present the most realistic view yet by a French politician of the hard choices that a global economy is imposing on France's coddled welfare state. The message is still sugar-coated, but after two years of unimpressive leadership by Chirac, that's at least a step towards filling the worrisome political vacuum left as France's old dirigiste and protectionist canons have crumbled.

With the campaign behind him, Chirac could start pushing reform with more vigor. Juppe's advisers say they're ready to launch a "second phase" of reform to build on the government's earlier budget surgery. Measures include clipping income taxes by $13 billion over five years, reducing employers' social security levies by as much as $7 billion next year, and giving low-wage workers more income by cutting their health insurance charges. After pressing on with more privatizations of banks, insurers and industrial holdings this year, Juppe's troops vow to start bringing the featherbedded Air France and the lumbering Credit Lyonnais bank to market next year.

The first hurdle for Juppe or any successor will be drawing up next year's budget by September. That will mean scrambling to find new revenue to follow up a one-time $7 billion windfall the government took in from France Telecom's partial privatization this year. On top of that, the shortfall in France's social security system could reach $9 billion next year, 50% higher than official government estimates.

That's just the start. Hard choices will stretch over several rounds of severe budget-cutting. "Most of the blubber has already been cut from public finances," says Smith Barney Inc. global economist J. Paul Horne. "Now they're getting down to the muscle."

Public cynicism and apathy about politics won't make the task any easier. But it isn't mission impossible. Despite fumbles such as backing down from some high-profile confrontations with striking truckers and train workers, Juppe's government has begun to fix France's most hidebound institutions. It has reformed the military and France's creaking pension system and prepared France Telecom for partial privatization. In early May, Juppe even secured a plan to improve the efficiency of the bankrupt national railway, by splitting it into separate financial and operating units, without triggering a major work stoppage.

If Chirac has learned anything in two years at the Elysee Palace, it is that reform by tiny, grudging steps is all the political traffic in France will bear right now. True, the go-slow approach risks leaving France even further behind, as voters in other European countries such as Britain and the Netherlands make their economies leaner and more competitive. Still, though Chirac may not win his "new start" in the upcoming vote, he can take heart that reform, albeit a la franaise, has finally taken hold.

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