RaboResearch - Economic Research

French elections: This year’s European finals are played in France


  • The French elections are no done deal; while Macron seems destined to win, Le Pen still has a chance to win the French presidency
  • All the candidates have pledged to make France great again, though their economic policy proposals vary widely
  • Pulling France out of the Eurozone and the EU will be very difficult; even in the case of a victory for Le Pen

What is at stake?

Unlike many other European elections, the French choose their next president and their national assembly in two different elections. On April 23 this year the first round of the presidential elections will be held between several candidates in order to determine which two candidates will battle each other in the second and last round to be held on the 7th of May. The legislative election, that determines who will get a seat in the French National Assembly (French parliament), will be held on the 11th and 18th of June. This special will focus on the Presidential election. At stake is the offer to serve a five-year term as President of the fifth French Republic.

The French President is the most senior office and holds the highest political position and thus outranks all other politicians. The fact that the President has quite a few mandates, makes the position of President in France powerful compared to most other European nations. Among others, the President has a lot of authority in the fields of foreign policy and national security including being the commander in chief of the armed forces and access to the nuclear codes; just as is the case in the United States. On top of this, he/she appoints the prime minister (although in practice backing by the National Assembly is a necessity) and can even dissolve the French National Assembly. He/she can also declare a state of emergency and in that case appoint an emergency government (without the Assembly’s backing). In terms of domestic policy and agenda, however, the president is very much tied to the Assembly’s wishes. 

Making France great again

In many ways the elections are about the future of France. Economic growth has been anaemic in recent years (barely reaching 1%) and unemployment stubbornly high (consistently around 10%). All Presidential candidates promise a break with the past, most recently in the form of the tepid policies by current President François Hollande. Their goal is, in one way or another, to make France great again. The elections are in the media also framed as the battle between a populist outsider (Le Pen) vs. the establishment (all the other candidates). What all candidates have in common is that they promise economic reforms to make France regain its international prestige, though there is wide variation in their proposals (see below). It is not difficult to spot parallels here with the Brexit referendum and Trump election and indeed with other European elections.

Looking under the hood of the French economy, things are not as bad as they seem and, indeed, is sometimes portrayed. Within Europe, France ranks seventh in national income per capita and third in gross disposable household income, only behind Germany and Austria (see figure 1). This explains why the French economy performed relatively well in the wake of the financial crisis in 2009 (see figure 2).

Figure 1: French households enjoy one of the highest disposable incomes in Europe
Figure 1: French households enjoy one of the highest disposable incomes in EuropeNote: Quantities per capita, corrected for price differences (PPP) in 2014. Source: Macrobond
Figure 2: France recovered fast after the crisis, only to stagnate later on
Figure 2: France recovered fast after the crisis, only to stagnate later onSource: Macrobond

Exports and investments slumped, but consumption held up well, carrying France through the storm and ensuring households were not squeezed too much. Of course, the government helped out and its debt position significantly deteriorated as a result. When the sovereign debt crisis hit in 2012 and 2013, it became painfully apparent that the supply side of the French economy was, and is, relatively weak. This is reflected in France’s (declining) competitiveness within Europe (see figure 3 and 4).

Figure 3: France is not among the most competitive economies in the Eurozone in terms of labour costs
Figure 3: France is not among the most competitive economies in the Eurozone in terms of labour costsSource: Macrobond
Figure 4: France’s position in the Global Competitiveness Index further reflects this
Figure 4: France’s position in the Global Competitiveness Index further reflects thisSource: World Economic Forum
Figure 5: The French government takes a large part from firm’s pies
Figure 5: The French government takes a large part from firm’s piesNote: Decomposition of gross value added in 2013 for non-financial operations.
Source: Eurostat, Rabobank calculations

French stayed more or less near the Eurozone average in terms of labour costs, which means a decline compared to Germany and the Netherlands. The French government is particularly large and overbearing, its expenditure comes in at about 57% of GDP, one of the highest in Europe. This leads to a high tax wedge for firms (as we noted wages are still high). In turn, this diminishes incentives for firms to innovate and indeed even start one (see figure 5). Unemployment has barely declined in recent years while the government has struggled to implement reforms to bring it down and balance its books.

The various candidates propose widely different solutions to France’s economic woes. They range from rigorous supply side reforms to a national base income. Le Pen wants to take France out of the EU and the euro, reintroduce the franc and close the borders. The economic situation and political dynamic in combination with the described electoral system means various scenarios are possible.

Round one!

For a long time it was thought that the first round was just a formality with Le Pen and Fillon coming in first and second, but constant new developments have resulted in unprecedented uncertainty. A few months ago the centre-right Francois Fillon was declared the winner of the French elections before the elections had even started but several scandals have interfered with this assumption. It started with the news that the French department of Justice launched an investigation about the fact that Fillon hired his wife, Penelope Fillon, as a parliamentary assistant. Later it emerged that his children were also on the public payroll. During the whole period his family allegedly raked in over 900,000 euros of taxpayers’ money. The scandals don’t revolve around the remuneration as such but that according to a previous aide, Fillon’s relatives never actually worked.

The centrist Emmanuel Macron has benefitted from Fillon’s scandals and we now see him as the candidate holding the best cards to reach the second round and even become the next president. Abandoning Hollande’s Socialist Party, he decided to run as an independent. This leaves him with two weak spots. First of all he does not have an extensive and experienced party apparatus to support his campaign and he lacks grassroots support. The other, maybe more problematic issue, is that, as a former Rothschild banker and minister, he is easy to associate with the French establishment by Le Pen and indeed with Mr. Hollande’s deep unpopularity. Mr. Macron is performing well in the polls, polling consistently above 20% since the end of January and recently even around 25% for the first round. The endorsement by Francois Bayrou turned the odds further in favour of Macron reaching the second round. Macron is the most moderate of all candidates and positions himself as a centrist candidate. He is in favour of pro market reforms, seeks closer ties with the European Union and support the open-door policy of Chancellor Merkel.

Figure 6: Combined, both hard-left candidates might have enough support to make it to the second round
Figure 6: Combined, both hard-left candidates might have enough support to make it to the second roundSource: Macrobond

The Socialist Party of current president Hollande is divided and has nominated a hard left candidate, Benoit Hamon. Hamon proposes a basic income, a return to the 35 hour working week and state compensation for those who want to work less. The other far-left candidate, Jean-Luc Mélenchon, is also contending. Mélenchon is openly criticizing the EU, proposes a 100% tax rate for incomes higher than € 360,000, per year, wants to ease immigration laws and, last but not least, opposes NATO. If these two candidates decided to join forces they might make it to the second round. The graph below shows that, given current polls, their combined supporters’ base would be enough to make it to the second round. That would mean Le Pen could run against a socialist candidate (see also figure 6).

Last, but certainly not least, there is Marine Le Pen who seems destined to proceed to the second round. She has been polling consistently around 25% since the end of last year. Her ideas are especially appealing to the youth, who suffer one of the highest youth unemployment rates in Europe. Her political stance should be clear. She is in favour of Frexit, closed borders, building a special relationship with Russia, supporting small businesses and nationalisation of the French central bank. 

Round two!

Currently, only one candidate seems certain to make it to the second round and indeed that is Ms. Le Pen. Having said that, according to all polls until so far, her chances to become the next French president are small. Her percentage of votes in the second round has never reached above 46% in any poll. As long as the difference between Le Pen and other candidates in second round polling remains more than 10-15%, we expect her not to win. Macron is most likely to be her contender at the moment of writing.

What if Macron wins?

Macron is a centre-left reformist candidate who worked in the previous government under Francois Hollande as a minister of economic affairs and a former Rothschild banker. He is presumed to continue reforming the country, albeit not as vigorously as Fillon, and will be inclined to deepen European cooperation. In all second round polls he beats Le Pen and that makes him currently France’s most likely next president.

While he holds a wide appeal in French cities, much of his support is untested. Moreover, he will face an uphill struggle to implement much of his domestic policy agenda. This is due to the lack of a party apparatus backing him, making it unlikely he will win a majority in the French parliament. Hence there is no guarantee that Mr. Macron will be able to pull France out of its stagnation in the years ahead. This implies that while financial markets may react positively to this outcome, such a reaction may prove relatively short-lived.

What if Le Pen wins?

A President Le Pen would immediately challenge the EU and try to renegotiate a deal for France. Since she wants to change the fundamentals of the European Union, taking France out of the euro and reinstating borders, it is very unlikely she ends up with no deal and will try and hold an in-out referendum.

Such a referendum is not trivial in any case, since being part of the EU is in the French constitution. Changing the constitution (confirmed by a referendum) can only be initiated by the government that is appointed by the Assembly. Since Le Pen will not have a majority there (her current best scenario is winning about 100 seats of the Assembly’s 527 in total), this will be difficult. She could try and circumvent parliament but would find the constitutional court in her way, as well as the French people who don’t support leaving the euro.

Impact on financial markets

It is however unlikely that financial markets are impressed by these legal niceties in case of a win for Le Pen. Taking France out of the euro is also no option without a default on French government debt. Redenominating the euro to a new French franc will trigger default on CDS contracts and both national and international holders of government bonds are unlikely to agree. We therefore think it is unlikely that president Le Pen would go so far and ultimately be disciplined by market forces, although she has said she will stand down if she cannot take France out of the EU or the euro.

Irrespective of the possibility of such a U-turn, financial markets would likely panic at the prospect of a populist at the helm of a core euro and EU member and the ramifications this may have for the union as a whole. We would therefore expect a significant increase in German-French bond spreads (bund spread or spread from now on) in such an event. We could see and are seeing similar developments if Le Pen is rising in the polls.

The two weeks between the first and second round will be an especially tense period. The graph below shows how this spread has developed and responded to some specific cases. We will now describe some of these events in more detail.

Figure 7: ‘Le Pen fever’: Markets respond strongly to stronger polls for Le Pen
Figure 7: ‘Le Pen fever’: Markets respond strongly to stronger polls for Le PenSource: Macrobond

The first rise in November resulted from fears that the Italians would vote against the constitutional referendum; as turned out to be the case. The rising spread was halted and came down a bit after Draghi hinted in late November that the ECB would very likely continue buying government debt beyond March 2017. Several comments made by Le Pen at the start of this calendar year raised interest rates on French government paper again. As mentioned, Le Pen has said that in case of a Frexit current French government debt would be redenominated in fresh new French francs instead of euros. On top of that she has said that Brexit showed that a Frexit wouldn’t be a disaster at all. However - as the graph also shows – after Bayrou pledged support and Macron found himself with a broader supporters base, markets have increasingly perceived a second round victory of Le Pen as a tail risk (see figure 7).

Figure 8: A Le Pen win could push markets to make Frexit inevitable
Figure 8: A Le Pen win could push markets to make Frexit inevitableSource: Macrobond

If this tail risk becomes reality, the height of the euro crisis in 2012 - which forced Mario Draghi to come up with his famous “whatever it takes” speech - gives some indication of the spread we might initially expect after a Le Pen victory, though admittedly this is rather speculative speculative (see also figure 8). Eventually the market will realise, as mentioned before, that she has to win the elections of the National Assembly too before a euro referendum would become a more realistic scenario. However, much would depend on Le Pen’s reaction to financial markets upheaval. For sure, we think the ECB would not be able to use the OMT program to buy French bonds as their rise in yields will not be an “unwarranted” development. Furthermore, Le Pen will not subject France to an adjustment programme, a condition for OMT support. If Le Pen doubles down on her wishes even under severe market pressure, Frexit could, ultimately, become self-fulfilling.

Other scenario’s

While we think a Macron win is currently the most likely outcome rather than a win for Le Pen, there are other, less likely scenarios too. Macron could make a mistake or be hit by scandal, evaporating his support. Then Fillon could make it to the second round and he, due to scandals around him, is less likely to beat Le Pen. Another scenario is one of the two leftist candidates, or combined ticket, reaching the second round. Results are unpredictable then as rightist voters are unlikely to support these candidates and abstain, in turn supporting Le Pen.

This year’s European political finals are played in France

Like last year’s Eurocup that was played in France, France will this year again play the leading role in the European election cycle. While the odds are still stacked against a victory by Le Pen, and especially against a subsequent parliamentary elections win, it is a non-negligible risk. If a Le Pen victory materialises, its impact will be substantial as one of the EU’s core member will likely try to tear it apart. In that sense, this year’s political finale will not be played in the Netherlands, Germany or Italy but in France.

Daniel van Schoot
RaboResearch RaboResearch Netherlands, Economics and Sustainability Rabobank KEO
+31 88 726 7864
Teeuwe Mevissen
RaboResearch Global Economics & Markets Rabobank KEO
+31 30 712 1509

naar boven