Yesterday I noticed an interesting paragraph over at efxnews about France and its parallels with what many see in the market today:
It’s a big surprise for some that France is high on the crisis susceptibility index because if you look at the market, their spreads are very narrow as the market treats France as another Germany. But when you look at the facts, at the background data, they actually occupy an above average position of almost every single variable. They have an account deficit which is in the upper half of these sample of countries. They have a government budget deficit, along with their debt to GDP ratio which is just above average. So, if you are looking to buy French Government bonds, you are probably alright because the market is treating France as the Siamese twin of Germany. But if you look to it from an economic point of view, then you should be very deeply worried because the fundamentals are not right.
That quote was from Thomas Mayer, senior adviser at Deutsche Bank, and it is quite interesting to think about in terms of what I have been discussing over the last 3 years. As I’ve spoken about many times previously, France has an economy much like that of periphery Europe , that is based on an internal services economy reliant on foreign capital to maintain internal balances. Given this, a cut in government sector expenditure will most likely have a negative impact on private sector demand leading to higher unemployment and lower industrial production. Obviously none of this is new, I mentioned this exact predicament back in June 2011:
High levels of public and private debt, a long running negative trade balance and current account deficit, stalling industrial production, GDP and employment along with significant banking sector exposure to the periphery all add up to a fairly risky predicament. This is certainly not a country that could take on a strict austerity regime without causing itself some significant short-to-medium term economic damage because it is obvious from the metrics that the private sector has been borrowing from both the external and government sectors for a long period of time.
And as we know now, 18 months later, that’s all coming home to roost:
The number of unemployed people in France climbed to new record levels in March, according to official data.
Around 3.2 million people were out of work in the country, an 11.5 percent annual increase, the labour ministry said on Thursday. With a wave of industrial layoffs taking effect, the March jobless figure beat the previous all-time record of 3.1 million set in January. 1997.
The new figures are a symbolic blow to President Francois Hollande, whose approval ratings have sunk to the lowest of any modern French leader in recent months as jobless claims soared. Battling to make good on his promise to reverse the rise in unemployment by the end of this year, Hollande has launched subsidised youth-job schemes and pushed through a reform to make hiring and firing slightly easier.
On Thursday Hollande reaffirmed his goal to reverse the rising trend, calling on his government to combine with industry and other players to use all means possible to create jobs.
So the macro-data was rubbish and I was right to point out that austerity was most likely going to punish France, as it probably will The Netherlands. So what you may ask? As long as the ECB is there to provide the ‘last resort’ backstop then all is well. Well yes… and no, and certainly NO in the context of the latest action from the Bundesbank.
My own opinion is that this is fundamentally important and a somewhat overlooked fact of what we see in the EZ. France is an economic microcosm to understand why the ECB’s programs of OMT and LTRO can’t actually solve anything with the Eurozone. As I talked about back last September the ECB offers liquidity to the banking system via asset swaps, but if there is no private sector demand for credit, due to private sector retrenchment, then this will do bugger all to help the economies of periphery Europe. As I said then:
So QE and OMT are monetary programs that, in part, aim at increasing the leverage of the private sector, but they have only attempted to address the supply side of the equation. Fiscal policy in the EZ is continuing to lower the private sector wealth and by doing so is reducing the demand for credit which in turn is further weakening the economy. This dynamic appears to be more that offsetting the expansionary monetary program which is why you have seen the ECB’s response continue to become larger and larger over time. The Eurozone is therefore likely to continue to see poor economic outcomes even under the open-ended OMT because the insistence on the fiscal compact as a pre-cursor to renewed intervention is likely to be completely counter-productive.
So although it’s not implicit in Mr Mayers’ statements that is exactly what we continue to see in the Eurozone, and I see very little good news on the horizon for either France or The Netherlands under the current policy framework.
Interestingly Italy’s new government may have some leverage on Brussels and Berlin to offset these inevitable outcomes, but obviously I’m not holding my breathe on that one.