Hollande Forced to Overhaul Cabinet Amid Split on Economy

French President Francois Hollande was forced into the third major overhaul of his ministerial team in two years after a dispute over hauling the economy out of stagnation prompted the government’s collapse.

Prime Minister Manuel Valls presented his resignation to the president after Economy Minister Arnaud Montebourg used a weekend interview with Le Monde to demand a change in policy direction including fiscal stimulus to bolster growth. France shouldn’t be “slavish” or “dogmatic” in its pursuit of deficit cuts because such a policy only stokes unemployment, Montebourg said, according to the newspaper.

Hollande asked Valls to propose a new ministerial team that is “coherent with his plans for the country,” the president’s office in Paris said today in an e-mailed statement. The cabinet is to be named tomorrow.

The government’s collapse underlines the mounting pressure on Hollande as he seeks to revive the economy at a time when his approval rating is lower than that of any past French president. France’s economy, the euro-area’s second biggest, has seen no growth in the past two quarters, the government has torn up its budget-deficit targets and jobless claims rose to a record in July.

“Hollande made this spectacular choice for two reasons,” Bruno Cautres, a political analyst at Cevipof, a Paris-based research center, said in a phone interview. He intended “to assert his leadership -- whoever will defy him will be ousted -- and to fix a clear line to his economic policy of spending cuts and a focus on competitiveness,” Cautres said.

Hollande Reforms

The dollar climbed to an 11-month high against the euro, stocks climbed and government borrowing costs dropped across Europe today after European Central Bank President Mario Draghi hinted that the ECB is ready to provide more stimulous to counter falling inflation and a stagnant euro-region economy.

The spread between French and German 10-year borrowing costs fell to 36 basis points, its lowest level since June, suggesting the prospect of ECB action outweighed any investor concern at France's cabinet shake-up.

Since coming to power in May 2012, Hollande has overseen changes to French labor rules that make it easier to fire workers and changes to the pension system that lifted charges and programmed an increase in the retirement age.

Hollande has also pledged 50 billion euros ($66 billion) in spending cuts over the coming three years, with the savings being used to fund a cut in payroll taxes for business. In his Le Monde interview, Montebourg said a third of the money should be used for household tax cuts to lift domestic demand.

Germany Criticism

Montebourg’s critique was aimed in part at Germany, which has led the charge within the European Union for fiscal responsibility as a prerequisite of economic recovery. That response was slammed by Nobel laureate Joseph Stiglitz, who said last week that euro-area austerity policies have been a “dismal failure” as evidenced by stalling economic growth.

“We should raise our voices,” Montebourg said, as cited by Le Monde. “Germany is trapped in the austerity policies that it is imposing on all of Europe. When I say Germany, I say the Germany that supports Angela Merkel.”

The German chancellor, speaking to reporters in Spain today, wished Hollande “every kind of success with his reform agenda,” saying the measures he had proposed were “bold.”

She declined to comment on the formation of a new French government, saying that “France will deal with that itself.”

ECB Call

Montebourg emerged as one of Hollande’s most activist ministers, using his responsibility for industrial policy to intervene earlier this year in Vivendi SA’s efforts to sell its SFR unit and in General Electric’s $17 billion purchase of Alstom SA’s energy business. Last month, he hit out at the ECB, calling on it to buy bonds and weaken the euro to boost growth.

“We have the most depressed region in the world with a currency that has appreciated the most globally and a European Central Bank that has not respected its mandate,” Montebourg told an audience of executives in Paris on July 10, citing the risk of deflation. “No one should leave the economy in the hands of moralists and accountants.”

The speech was made against the backdrop of a screen projection reading “economic patriotism” and “fight for growth” in a packed and darkened room that resembled Montebourg’s campaign meetings in the Socialist primaries of 2011, when he placed third. He pledged then to run again after his defeat by Hollande. France’s next presidential election is due in 2017.

Le Pen

Marine le Pen, whose National Front party won France’s European elections in May, urged that parliament be dissolved and fresh elections called, saying on BFM Television that “the French people must be able to express themselves” at the ballot box.

The scale of the task facing the new government was illustrated by Hollande’s decision announced on Aug. 14 to abandon France’s 2014 deficit target after the economy failed to grow in the second quarter.

France’s repeated inability to meet EU fiscal rules it helped write is fanning debate about euro area economic policy that may feature at a meeting of the bloc’s 28 leaders in Brussels on Aug. 30. While Germany advocates reforms and prudent spending to help meet deficit targets, other EU members led by Italy are seeking more budgetary leeway.

Hollande “is separating from the traditional Socialist policies on the welfare state and an economy driven by the state,” said Cautres. “Montebourg will be vocal outside the government. But he is not alone in the left wing opposition and he will need to find a place of his own.”

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