SEB MERCHANT BANKING COUNTRY RISK ANALYSIS May 19, 2017

Transcription

1 France SEB MERCHANT BANKING COUNTRY RISK ANALYSIS May 19, 2017 Analyst: Rolf Danielsen Tel: rolf.danielsen@seb.se With Marine Le Pen out of the run for the Elysee, a political disaster with potentially severe market reactions has been deferred raising hopes that France will be able to tackle its long standing structural problems of a too generous welfare state, poor growth prospects and high government indebtedness. Country Risk Analysis Summary and conclusion Economic prospects looks brighter: In the current year and for the near term future, growth is likely to improve only slightly but remain steady at around 1,5%, enough to see unemployment coming gradually down to less than 9% before the end of the decade. That will combine with limited price pressure and a quite manageable deficit in the external accounts at less than 2%/GDP in terms of the current account balance. Budget consolidation: Provided a reasonable workable political situation in Parliament for the newly elected reform friendly President, Mr. Macron, these economic prospects should bode well for the continued consolidation of the government budget reducing the annual deficit to less than 3%/GDP as required by France s commitments to the other EU countries. With as high government debt ratio, however, at almost 100%/GDP, France s vulnerability to adverse market reactions or political shocks will not disappear anytime soon. Political calm: Political calm is now key to the medium term future. This depends on the results of legislative elections next June. Chances are that the traditional right of center Republican Party Les Republicains will win majority and form a workable cooperation cohabitation with the President who a year ago formed his own political party En Marche! In a worst case scenario winner France could end up with a hung parliament which may obstruct progress on further reforms. Moderate growth set to continue barring disruptive political events: For the current year and until the end of the decade, France is likely to continue on its path of moderate growth of around 1,5% a year with low inflation and a reasonable external balance while containing the fiscal deficit and reducing government debt. However, Ms. Le Pen and her Front Nationale in turn are not out of politics despite recent election defeat. They represent a popular trend against EU membership and traditional elite politics, with ramifications for creditworthiness and country risk. Ratings: Since a year ago the rating agencies have maintained unchanged assessments of the sovereign. So far that seems relevant also for country risk. important your attention is drawn to the statement on the back cover of this report which affects your rights.

2 Recent developments Moderate recovery taking hold: In 2016, growth slightly accelerated to 1,3% and after a healthy 0,4% quarter-on-quarter (qoq) growth in the last three months of the year, expectations have been growing for the trend to continue into the current year. However, in contrast to last year, growth will no longer be spearheaded by domestic demand only, but will also find support in an improved global environment including pick-up of activity in the euro-area. While private consumption could meet some headwinds as last year s stimuli including lower energy prices are about to disappear, brisker credit growth and higher capacity utilization in industry should support investment growth as high as almost 3%. Tailwinds from government stimuli: That will also reflect the extension of government stimuli including the depreciation allowance for companies, zero interest loans for residential construction and the so-called Pinel tax credit applicable for investments in new housing units. Some increase in government spending should contribute in the same direction although the government is overall expected to persevere with fiscal consolidation. Unemployment falling more than expected: For several years structural unemployment has remained been high at about 10% of the workforce. Last April, by contrast it unexpectedly fell to 9,6% giving rise to hopes that this could be the beginning of a new downward trend as more people find jobs predominantly in the private sector in line with rising economic activity. That said, though, youth unemployment still remains elevated at more than 21%. Low price pressure set to continue: Reflecting in part lower oil prices, headline inflation remained very subdued in 2016 at only 0,2%. For the current year, that effect is likely to abate, exposing underlying price pressure of around 0,5% which may translate into headline CPI of slightly more than 1% pa. Improving external balances: Despite the expected pick up in exports,, the trade balance is set to record another year of deficit as import intensive capital goods rise in parallel with the domestic investment boost. As a result, the current account will remain in a moderate deficit of about 1,4%/GDP. That is barring a further deterioration in Asia which might be offset, though, by stronger growth in the euro area -- the destination of more than half of all export shipments from France. Policies Fiscal deficit inches lower: France s long fight against fiscal unbalances since the outbreak of the global financial crisis (GFC) nearly 10 years ago, is about to achieve its end goal with a deficit at 3%/GDP or less. Last year the deficit shrank from 3,5% to 3,3% And the government s draft budget aimed at a deficit of only 2,7%. That, however, is now unlikely to be reached following the extension of tax credits and cuts into the current year while the government plans to spend an additional 10bn 0,5%/GDP on security and the prolongation of hiring bonuses for SMEs. A part of that extra spending, by contrast, could be recovered by a clamp down on tax evasion and reduced debt service reflecting low interest rates. As a result, most observers 1 1 Including the central bank: Banque de France: Macroeconomic projections, December

3 pencil in a deficit for the current year at around 3,1% that should now be more achievable following the election of Mr. Macron, known for his fiscal austerity measures from the time he was economy minister under the previous socialist Vals/Holland government. EDP Excessive Deficit Procedures: Since the beginning of the global financial crisis, France has failed to unfinished two EDP programs with Brussels and is now into its third program. This was expected to be concluded in the current year with a deficit below 3%/GDP. As that may no longer be realistic, the government will probably be granted an extension instead of having to initiate a new program in-asmuch as the deficit is likely to achieve the 3% target next year. Debt still too high for comfort. Last year, government debt ended at almost 98%/GDP. According to most projections it should now have peaked, but at this level the fiscal balance is vulnerable to interest rate shocks or an economic downturn that can reduce government revenues. In terms of intra EU commitments the debt ratio should be below 60%/GDP, but how much debt a government can carry without market reactions as regards the rate of interest may no longer be as restricted as before due to the prevailing low interest rate environment. In the case of Japan, markets are accepting a government debt ratio almost twice as large, so far with few signs of jitters. Structural policies: Government measures to reduce labor costs, the so-called CICE Tax credit for competiveness and employment, combined with a reduction of corp. taxes are beginning to have a positive effect on the labor market. Other structural reforms, by contrast, have been slow in the gestation and in the near term expectations are limited for any significant progress. That includes a much touted revamp of a bloated government bureaucracy related to too many administrative units including an excessive number of municipalities. Pension reform regarding entitlement and the retirement age may be of a higher priority, though. Financial market institutions: Few observers express many concerns about French banks which are regarded as profitable and adequately capitalized. It is noted that in recent years they have much reduced their exposure to some of the Eurozone s still troubled peripherals including Greece and Portugal. Political developments Mr. Macron secures a clear victory: Presidential elections of last April, ended with the central candidate, Mr. Macron, receiving 66% of cast votes, while his opponent, Ms. Le Pen, gathered only 34%. These results were much in line with what had been predicted by most polling agencies. Had she won, Ms. Le Pen and her party Front Nationale (FN) would have represented a marked shift with current policies and may have widened cracks in an already divided nation in particular over immigration. As such, a potential disaster with severe market reactions was avoided. Legislative elections in next June will be key to France s way forward: The new President is an advocate of further reforms including of the labor market and is as such in line with mainstream popular opinion but not necessarily vested interests. To achieve his goals he may need to strengthen and widen the political base beyond his young one-year old party. For that to succeed, much will depend on legislative elections next June in which he is unlikely to win 50% of the 577 seat assembly. 3

4 Politics going forward will therefore depend on the results for the other parties. In case the traditionally largest party, Les Republicains, wins a majority, the president will have to accept cohabitation with Parliament, a situation France has lived with before but in less demanding circumstances. Should no party win a majority the situation could become complicated and the president would have to work with changing coalitions from case to case which might seriously impede his ability to put his policies into life. Outlook Moderate growth set to continue barring new political upheavals. : For the current year and until the end of the decade, France is likely to continue on its path of moderate growth around 1,5% a year with low inflation and a reasonable external balance. Critically, it should be able to continue reducing the fiscal balance and as a result stabilize government debt as a ratio of GDP below 100% -- a benchmark often regarded as key for market confidence. Nevertheless, that is still a high debt ratio which represents vulnerability at the heart of Europe. In an otherwise adverse environment this could trigger negative market reactions with implications for the budget deficit thus calling for more austerity to keep the balance. Should that combine with a complicated political situation in Parliament, the wiggle room for political reforms policies would likely be even more reduced. Ms. Le Pen, in turn, is not out of politics: As regards near-term political stability, it is too early to discount the future of Ms. Le Pen and party, FN, notwithstanding its second defeat in national elections -- her father ran for presidency in 2005; she still represents a trend in the population against what is perceived as traditional elite politics. As regards the issue of EU membership, it is noted that in the first election round 48% of the votes were cast for anti-eu candidates, including FN. That said, though, at the present FN has only 2 representatives in Parliament and it appears that the most it can hope for is around 15 MPs. Key ratios 2017 Population (millions) 67 GDP/capita ($) GDP (change) 1.4% Inflation 1.2% Curr.acc. balance/gdp -1.6% Reserves/imports (months) 0.0 Budget balance/gdp(*) -2.9% Government debt/gdp(*) 96% Present ratings: Fitch: AA S&P: AA Moody's: Aa2 Peers: Japan UK Germany 8 Macro 6 Moody's: Baa3; S&P BB+ (since Feb-05); Fitch: BB+; =SEB 7/8/8. 4 Liquidity balance 2 Absence of Event Risk France Japan Resilience Information Graph: France's risk profile almost matches that of Japan except for liquidity where France scores higher reflecting the benefits of being part of a major currency area. 4

5 Key data: GDP (bill. US$) GDP/capita (US$) GDP (change) 2.1% 0.2% 0.6% 0.7% 1.2% 1.1% 1.4% 1.6% 1.5% 1.4% Investments/GDP 22.1% 22.1% 21.8% 21.6% 21.5% 21.8% 22.1% 22.2% 22.3% 22.4% Budget balance/gdp* 0.0% -4.8% -4.0% -3.9% -3.6% -3.4% -2.9% -2.3% -1.8% -1.4% Govt debt/gdp** 83.8% 88.9% 91.5% 94.7% 96.3% 96.9% 96.2% 96.0% 95.1% 93.7% CPI inflation (%) 2.1% 2.0% 0.9% 0.5% 0.0% 0.2% 1.2% 1.3% 1.7% 1.9% Money demand (%) 4.3% 2.9% 1.7% 1.1% 3.0% 5.2% 6.2% 6.5% 5.1% 4.3% Stock prices Interest rates 1.4% 0.6% 0.2% 0.2% 0.0% -0.3% -0.3% -0.3% -0.1% 0.1% Exch. Rate ($) Trade/GDP (%) 45% 45% 45% 44% 45% 44% 47% 48% 49% 50% Oil price (Brent) $111 $112 $109 $99 $52 $44 $52 $52 $59 $68 billions US $ Export of goods Imports of goods Other: Current account (% of GDP) -1.5% -1.6% -1.3% -1.5% -0.2% -1.1% -1.6% -1.3% -1.1% -0.8% FDI Loan repayments Net other capital flows Balance of payments Reserves Total debt o/w short term debt Sources: Oxford Economics, IFS and SEB estimates. Rating history Fitch (eoy) AAA AAA AAA AA+ AA AA Moody's Aaa Aaa Aa1 Aa1 Aa2 Aa2 Type of government: Republic Next elections 2022 Other: Latest PC deal None Latest IMF arrangements None 5

6 Disclaimer Confidentiality Notice The information in this document has been compiled by SEB Merchant Banking, a division within Skandinaviska Enskilda Banken AB (publ) ( SEB ). Opinions contained in this report represent the bank s present opinion only and are subject to change without notice. All information contained in this report has been compiled in good faith from sources believed to be reliable. However, no representation or warranty, expressed or implied, is made with respect to the completeness or accuracy of its contents and the information is not to be relied upon as authoritative. Anyone considering taking actions based upon the content of this document is urged to base his or her investment decisions upon such investigations as he or she deems necessary. This document is being provided as information only, and no specific actions are being solicited as a result of it; to the extent permitted by law, no liability whatsoever is accepted for any direct or consequential loss arising from use of this document or its contents. SEB is a public company incorporated in Stockholm, Sweden, with limited liability. It is a participant at major Nordic and other European Regulated Markets and Multilateral Trading Facilities (as well as some non-european equivalent markets) for trading in financial instruments, such as markets operated by NASDAQ OMX, NYSE Euronext, London Stock Exchange, Deutsche Börse, Swiss Exchanges, Turquoise and Chi-X. SEB is authorized and regulated by Finansinspektionen in Sweden; it is authorized and subject to limited regulation by the Financial Services Authority for the conduct of designated investment business in the UK, and is subject to the provisions of relevant regulators in all other jurisdictions where SEB conducts operations. SEB Merchant Banking. All rights reserved. 6