I posted back in July that I thought France would be next after Italy in the contagion breakdown because of its macroeconomic metrics. 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.
I have mentioned a few times over the last 6 months that I have been surprised that a rating agency hasn’t already downgraded the country due to what appears to be an unsustainable economic model for a country inside the Eurozone, where there is obvious political and authoritative separation between the national government and the central bank.
Over the last month or so we have also seen Nicolas Sarkozy join Angela Merkel in building a new European economic treaty based on the premise of near-balanced government budgets. That being the case, France is almost guaranteed to under-perform over the next few years and, given its weak starting position, I would suggest there is significant downside economic risk for the nation. Even if I am being a little bearish on those risks, this certainly isn’t a country that I believe deserves the highest marks you can get for credit default risk. When stacked up against a country like Finland or Germany it doesn’t really make much sense. The CDS markets appear to agree, with Indonesia, a BB+ rated country, outperforming France on 5yr CDS.
So with all that in mind I have been on the lookout for news that France was about to lose its top rating for some time. Not only because I have expected it to occur, but also because of the considerable flow-on effects this downgrade would trigger:
The European Financial Stability Facility may lose its top credit rating if any of the bailout fund’s six guarantors face a downgrade from AAA, Standard & Poor’s said.
“We could lower the long-term credit rating on EFSF by one or two notches if we were to lower the AAA sovereign ratings, which are currently on creditwatch, on one or more of EFSF’s guarantor members,” S&P said in a statement today.
At the same time, the ratings company said it “could affirm the AAA ratings on EFSF and its issues if we affirm the rating on all six of EFSF’s guarantor members currently rated AAA.” Germany, France, the Netherlands, Finland, Austria and Luxembourg are the top-rated nations backing the rescue fund.
Last night the markets appear to have been spooked by statements by Sarkozy’s finance minister, which backed up the president’s own comments from a day earlier and appeared to be softening up the citizens of France for a coming downgrade:
For France to lose its triple-A debt rating would be bad news but “not a cataclysm”, Foreign Minister Alain Juppe says, amid rumours a downgrade is imminent.
Since the weekend, French officials have been preparing the ground for a ratings agency to decide that the nation’s public finances no longer merit a perfect debt rating, a result once seen as a disaster.
“It wouldn’t be good news, but it wouldn’t be a cataclysm either,” Juppe told the financial daily Les Echos, in an interview conducted on Tuesday.
S&P appear to have rebuked the rumour for now, but I think it is fairly clear from these statements that the French government are expecting the worst. Given France’s economic circumstances, as I described above, so am I.
In other news, the Hungarian foreign currency home loan debacle is flaring up again, the Greek PSI+ is looking shakey , Italy paid a high price of its latest 5 yr offerings and finally, Merkel seems to be extending an olive branch to David Cameron.