Euro Zone is Sick

January 10th, 2014
in Op Ed, syndication

France is Only as Sick as the Eurozone

Written by

The French have done such a good job of convincing themselves that France is the sick man of Europe that commentators in the rest of the world have joined the chorus, but it is an exageration.

France may a bit off colour, suffered a slight chill, but this is nothing to other comparable countries in the Euro zone, such as Spain and Italy, not to mention Cyprus, Portugal, Ireland, Greece and Slovenia.

But they are recovering, says the gloomsters, and France is not, or not yet or not by much.

Follow up:

But this is like saying that some one who has just been brought back from the brink after suffering a serious heart attack and is now beginning what promises to be a long convalescence is healthier than some one who is just getting over a slight chill.

France's GDP per capita in current prices at purchasing power parity in 2012, at $36,933, was at the average level for the Euro zone, with the southern members below and the northerm members above, with Germany at $41,923 and the UK at $35,873.

France's GDP in constaant prices declined by 1.3% comparing 2008 with 2012, which lags Germany, +2.6%, but is a lot better than Spain, -5.6%, not to mention the UK, -2.4% (Source: OECD/Statistics).

Unemployment in France is record high at 10.8% (Eurostat) at the last count, which is more than a full point below the Euro zone average and almost exactly the same as the EU average level. It increased relatively moderately, by three percentage points, from 7.9% in 2008 (admittedly a high level at the end of a boom).

Spain started with a level of 11.4% in 2008 and at the last count was 26.7%. The UK did a bit better, an increase from 5.7% in 2008 to 7.9% in 2012 and 7.5% at the latest count.

The yield on French 10-year government bonds is about 2.52%. For Spain it is 3.8%, Italy 3.9% and Greece 7.5%. There is a reason for these differences. France is in relatively good health compared with the others, though not as blooming at Germany, yield 1.9%.

The rates also reflect differences in debt to GDP ratios, just under 93% for France, 156% Greece, 124% Portugal, 127% Italy, 86% Spain, 88% UK and 81% Germany.

The international competitiveness of the French economy has failed to improve, say the critics. It is shown by the increase in the deficit of the current account of the balance of payments, which has increased from about 1.3% of GDP in 2008 to 2% now.

In Spain and the other southern members of the Euro zone the current account has gone from huge deficit to surplus or near-surplus. If this is supposed to makes them Europe's pin-up nations, it is worth recalling that the counterpart is the appallingly high rate of unemployment.

If France had taken more decisive action, it could have got its general government budget deficit down to 3% of GDP by now, from its peak level of 7.6% in 2009. Yes, but as France is the second largest economy in the Euro zone, a faster deficit reduction, implying lower total demand and GDP in France, this would not have been in the slightest bit helpful for the Euro zone as a whole.

As a matter of fact, France has reduced its budget deficit by slightly more than Germany, in France's case from 7.6% of GDP in 2009 to about 4.1% in 2013, in Germany from 3.0% in 2009 to zero in 2013.

Spain's deficit went from 11.7% to 4.5% over the same period and the UK's from 11.2% to 5.1%.

The thing that worries the French themselves more than anything else is the slide in manufacturing output and employment since 2000, with industrial employment falling from around 18% of the total to 11% currently. That is in striking contrast to Germany, but is, on the other hand, almost the same as the ratio for the UK.

An important reason for the slide, most would agree, was the cut in the working week from 39 to 35 hours from 2000, without any reduction in weekly/monthly pay. It was doubly unfortunate that in Germany in the first six or seven years of the new century kept hourly wage costs from rising for several years, which has left Germany with a very healthy competitive advantage over the French and nearly all their other European competitors.

If France was serious about regaining some of its lost cost-competitiveness, it could, as Serge Dassault, president of the Dassault aviation and software engineering group, proposed recently, put the working week back to 39 hours without any increase in the weekly pay packet.

Politically this is out of the question, but it has much to recommend it as it would not reduce household incomes or tax revenues, while cutting hourly wage costs by over 11%. The respected Paris think tank IFRAP has suggested that an increase in the working day by 24 minutes (two hours a week) might at least be worth a serious discussion.

France has its own institutional make-up and its own manner of getting things done, which sometimes perplex the outside world, but they have served France quite well. Its economy does not perform as well as Germany's, but keeps pretty much in line with the UK, and both France and the UK are average performers only in the context of the European Union.

So why there is so much griping about the French economic performance? Some possible reasons.

The first is that how France does matters. The outlook for the Euro zone as a whole will be called in question if France's problems are not brought under control, as The Economist pointed out in a survey of France last year.

Second, France's performance is not stellar and the socialist government of President Francois Hollande that came into office in May, 2012, has managed to antagonise just about everyone in France by its manner of tackling the problems, especially by relying almost entirely on raising tax rates as a means of reducing the budget deficit while doing virtually nothing to curb public expenditure, which is at about 56% of GDP, only matched by Denmark (which also has a problem of economic stagnation).

Third, it is also clear that the electorate's expectations that things would get better when the socialists replaced the conservative regime under first President Jacques Chirac and then President Sarkozy were disappointed. This notion was encouraged by Francois Hollande, who pretended that all the problems were the fault of resident Sarkozy and would melt away under his regime.

This, of course, was nonsense. The financial crisis that hit the world in 2008 was not France's fault and the problems have not gone away at the appearance of a socialist government.

Finally, the other key point to remember is the limits imposed on the member states of a monetary union to conduct counter-cyclical monetary and fiscal policies in face of a deep recession. It is, of course, France's fault for signing up to the Maastricht Treaty in 1992, but that is another story.

France's problem is not a French problem, but a Euro zone problem. It is that reducing big government budget deficits and very high debt to GDP ratios (France's is just under 93% currently and expected to go to about 94% by the end of 2014 and probably to 95% in 2015) are almost impossible without a comfortable increase in GDP, say 2 - 4% per year in real terms and more in current prices.

Without a federal fiscal structure, such as that of the USA, without a consolidated public debt, which the USA got over 200 years ago, and with a central bank with very restricted means to keep nominal GDP rising at a rate that makes debt reduction possible, France and all the other member states of the Euro zone may well be facing a very long period of economic stagnation and persistent debt problems.

Many distinguished economists have pointed this out, including Carmen Reinhart and Kenneth Rogoff in a recent working paper published by the IMF, where they conclude:

"Given the magnitude of today's debt and the likelihood of a sustained period of sub-par economic growth, it is doubtful if fiscal austerity will be suffuicient.......Rather, the size of the problem suggests that restructring will be needed, particularly, for example, in the periphery of Europe, far beyond anything discussed in public to this point."



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