French 10-year government bond yields have pushed above 3.5% as investors process the reality of a government unable to pass a budget through a fragmented National Assembly.
This yield represents a more than 80 basis-point spread over German Bunds. Wow.
The spectre of a French sovereign debt crisis, once dismissed as alarmist, is edging into the realm of the credible.
The arithmetic is brutal. France’s structural deficit is the worst in the eurozone at close to 6% of GDP. Debt-to-GDP exceeds 112%. Without a parliamentary majority, the government cannot implement the spending cuts needed to bring things under some form of control.
Without fiscal consolidation, the bond market will eventually demand a premium that makes the situation self-fulfilling. Macron may have to face his very own Liz Truss moment.
The euro project has always assumed that member states would maintain broadly sustainable finances. Without any meaningful way to enforce this, however, it shouldn’t surprise that member states flaunt things. If you can externalise the risk, what incentive is there for domestic reform?
France, the eurozone’s second-largest economy, is pushing this permissiveness to its limits.
What is required is a government capable of governing: one with the mandate and the political will to cut expenditure meaningfully, reform the country’s wildly generous pension system, and restore credibility with the bond market.
The ability of France’s fractured political landscape to produce such a government in the near term is limited. Both left and right-wing challengers at the next election have shown an unwillingness to acknowledge the fact that reform is needed.
It will take a crisis that will severely harm living standards before anything is done, and given the French population’s fondness for a riot, the consequences of that could be more than just economic.
Macro Aggressions 
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