RaboResearch - Economic Research

Dit artikel is ook beschikbaar in het Nederlands

Q&A French elections: who will become the next president?

Economic Report

  • First round election outcome in line with expectations
  • Markets sigh in relief
  • Macron now favourite to become the next French president
  • In the medium term, risk of political gridlock is significant

What happened yesterday (and was it expected)?

Emmanuel Macron won the first round of the French presidential election (23.8%), followed by Marine Le Pen (21.5%). They will now head into the second round. The results, as in previous years, were remarkably well in line with polls of the first round – especially when compared to those of Brexit and the US presidential elections. The main losing candidates (except Mélenchon) all endorsed Macron quickly after the first exit polls.

The result represents a tectonic shift in France’s political landscape. The two establishment party candidates – Francois Fillon for Les Republicains and Benoit Hamon for the Socialists – lost to outsiders and came in third and fifth place, respectively. The independent Macron, who has no formal party behind him, with his En Marche! (Forward!) movement was not even in politics only three years ago. Marine Le Pen and her Front National, with only two seats in parliament, is equally an outsider. Both candidates represent very different views on France’s future. In this Q&A we will look at what’s next and preview their economic agendas.

What is the market reaction?

Last Friday, looking at the EUR/USD, movement it was clearly a risk off day. Few market participants dared to hold on to their long EUR/USD positions; shielding themselves from a possible adverse election outcome. Ending the previous week with a EUR/USD rate of 1.0702 there was clearly upward potential in case of a Macron and Le Pen victory. Therefore, the strong upward movement of EUR/USD should not come as a surprise. Initially the currency pair surged 2% to a five-month high of 1.0937.

At the moment of writing this Q&A the currency rate has dropped back slightly; consolidating around 1.0850. Figure 1, shows the initial increasing risk during the surge of Mélenchon in the polls during the middle of March. This resulted in a steep increase in the cost of protection (as embedded in options prices) in case of an adverse election outcome; hence a Mélenchon vs Le Pen run off. This would have pitted two anti-European candidates from both extremes in the political spectrum against each other. As one can see the cost of protection against a (steep) drop of EUR/USD has declined significantly this morning, reflecting the severe reduction of tail risk.

As was to be expected, the yield on French 10-year government bonds decreased significantly to 0.83%; a drop of approximately 11 basis points. Additionally the spread with 10-year German bunds declined with approximately 20 basis points reflecting the risk on mode of this morning resulting in the selling of bunds.

Figure 1: Risk reversal has reversed
Figure 1: Risk reversal has reversedSource: Macrobond
Figure 2: There still seems to be some upward potential for French government bonds
Figure 2: There still seems to be some upward potential for French government bondsSource: Macrobond

Still some potential remains if one takes a look at the graph above. A spread of 25-30 basis points seems more in line with the longer term trend. Maybe holders of French bonds will have to wait until after the second election round – with Macron becoming the new president - until they get a second treat. Despite the positive reaction it should be said that there are still risks on the medium term. Regardless who wins the second round and becomes president, neither candidate is expected to win a majority in the National Assembly. As such the chance of a political gridlock is significant making it even harder to implement necessary economic reforms.  

What’s next?

In two weeks, on Sunday the 7th of May, the second round of the presidential elections will take place. Whoever gets more than 50% wins the French presidency. Inauguration will then usually take place within ten days with much ceremonial aplomb. The President is constitutionally free to appoint a Prime Minister who then forms a government. In practice, though, the President needs parliamentary consent for this appointment since the French government is responsible to parliament. Since neither candidate has a majority in the French parliament (National Assembly), the upcoming elections on that front will be important to watch. The legislative election for each of the over 500 seats for the Assembly will be held on the 11th (first round) and 18th of June (second and final round). It was scheduled in this way so that the new President would always have a workable majority in Parliament. However, since neither of the candidates has any prospect of winning a majority, these elections will become instrumental in determining the domestic and thereby economic success of their presidency.

The Presidential campaign will now most likely intensify as both candidates will focus more on their differences. Traditionally we will at least see one big television debate before the second round, which could lead to shifts in the current polls in case of a slip of the tongue of one of the remaining candidates. Secondly, scandals surrounding either candidate could emerge. Especially Macron’s support is untested on this front. Finally, the polls of the second round this year have the potential of being less informative as it carries the potential to be more surprising than the first round due to lower turnout (see also the next question).

What’s at stake and who is most likely to win the second round?

The French Presidency 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. He/she can also declare a state of emergency and in that case appoint an emergency government (without parliaments backing). In terms of domestic policy and agenda, however, the president is very much tied to the Assembly’s wishes (see also previous question).

Since France is part of the core of Europe, the elections carry implications for its future too. Macron is pro-European and will likely be cooperative in finding solutions to Europe’s most important challenges such as Brexit, economic reforms and integration and refugee issues. Le Pen, to the contrary, despises the European Union and wants to leave it as soon as possible. Consequently, in the case of a Macron win we could see a (modest) relief rally in financial markets and French spread vs. German bunds may decrease again. If, on the other hand, Le Pen wins the presidency we could see the opposite as her agenda may severely harm confidence in the French state to service its debt and the future of the euro.

Figure 3: Second round opinion polls
Figure 3: Second round opinion polls Source: Macrobond

Looking at the polls for the second round (see figure), Macron holds the best cards to win. Just before the first round he held a lead of more than 25 percentage points vs. Le Pen in the second round. In comparison, Remain led Leave by 1-2 percentage points in the Brexit polls and Clinton led Trump by 2-3 percentage points. The losing candidates of the establishment parties, Francois Fillon and Benoit Hamon, were quick to endorse Macron. The biggest risk for Macron is complacency among his (less committed) voter base, leading them to abstain and not turn out. Le Pen’s voters are much more loyal, though she has limited capacity to reach beyond her base (which indeed should be close to the number who voted for her in the first round). In the past, the second round had high turnout (around 80%), which should benefit Macron were that to happen again this time.

What is Macron’s economic agenda?

The 39-year old independent candidate is the surprise of these elections. He is internationally and EU-minded and non-partisan. He believes France has to be a credible partner as a prerequisite to further working together with Germany. His economic reform plan rests on three pillars: a cut in public spending, 'more just' fiscal policy and a EUR50 billion investment plan. He promises to reform the labour market by allowing more firm-based collective bargaining as well as lowering social charges. In addition, though, he proposes a universal unemployment benefit that is conditional on active participation. He leaves the current retirement age of 62 intact and is keen to invest heavily in education. He is also firmly in favour of further free trade agreements and EU integration. This could provide new impetus to the European project. As such, financial markets may welcome his election. But the fact that, as an independent, he is very unlikely to achieve a majority in the French parliament after June’s elections means France’s structural problems and economic setbacks will not be resolved any time soon.

What is Le Pen’s economic agenda?

The candidate for the far-right Front National has succeeded in softening her image, making it to the second round. The party remains firmly anti-immigration and anti-Islam. She has promised to withdraw France from the eurozone, introduce a national currency (thereby effectively defaulting on French’ government debt), leave Schengen and reintroduce border controls. Eventually she wants to hold a referendum to leave the EU altogether. Her policies are directly protectionist, for instance by no longer applying the EU Posted Workers Directive. She also plans to decrease social security contributions through a lower fiscal and administrative complexity and undo any previous labour market reforms. She wants to decrease the retirement age to 60, lower taxes for small and medium-sized firms and put a tax on hiring foreigners. Achieving this agenda will not be easy as she is very unlikely to achieve a majority in June’s parliamentary elections. Moreover, constitutional hurdles exist for a referendum on EU membership. Nonetheless, financial markets will be very worried if she wins, leading to at the very least to a jump in the spread on French government bonds.

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

naar boven