Eurozone Ernst & Young Eurozone Forecast Winter edition December 2012 Austria Belgium Cyprus Estonia Finland France Germany Greece Ireland Italy Luxembourg Malta Netherlands Portugal Slovakia Slovenia Spain
Ernst & Young Eurozone Forecast Winter edition December 2012 Outlook for France 17 Eurozone countries Finland Estonia Ireland Netherlands Belgium France Germany Luxembourg Austria Slovenia Slovakia Italy Spain Portugal Greece Malta Cyprus Published in collaboration with
Highlights Focus on competitiveness is correct, but benefits may not appear for some years France is rightly focusing on enhancing competitiveness over the next few years. Making the country s products, services and production locations more attractive is essential to achieving sustained and robust growth. The challenge is significant and the positive impact of enhanced competitiveness is likely to materialize only slowly. We forecast GDP growth at around zero in 2012 and 2013, followed by 1.2% a year on average in 2014 16. This relatively muted growth outlook should not deter the French Government or businesses from implementing reforms aimed at enhancing competitiveness. With France s neighbors and trade partners embarking on significant reforms, it is essential that the country keeps up with these changes. Price competitiveness is one key focus of the proposed reforms. Measures aimed at reducing the cost of labor can provide a significant boost to growth. Simulations using our Global Economic Model suggest that lowering labor costs by 20 billion (1% of GDP), as proposed by the Government, could boost GDP by around 0.4% and lower unemployment by 350,000 within two years. The benefits of these measures are likely to take time to materialize and in the short term the key concern remains the labor market. Unemployment has risen faster than we anticipated in the second half of 2012 and business intention surveys and our forecast that growth will only be around zero suggest that unemployment will rise further. We expect it to peak slightly above 11% in 2013, but there is a risk that the labor market will deteriorate more and for longer than we currently envisage. High unemployment is one factor dampening consumer spending, which we estimate was flat in 2012. On the positive side, we expect that purchasing power will be boosted by a fall in inflation, from 2.3% on average in 2012 to 1.6% in 2013. Overall, this implies a small 0.4% increase in consumption in 2013. The Government s competitiveness policies could provide a boost to investment, especially if they are followed by similar measures. This comes on the heels of a setback in the 2013 budget, which raised the tax burden on companies. So it will probably be some time before businesses can be confident that the policy environment is indeed becoming more favorable to investment and recruitment. In the meantime, investment is likely to be broadly flat in 2012 and 2013, before picking up in 2014 16 to grow by 2% a year on average. Importantly, the Government has kept its commitment to reducing the public deficit and, in particular, to reducing public spending. With public expenditure much higher in France than in other countries, there is some room for efficiency improvements that would enhance the productivity of the economy as a whole. Because of a less optimistic growth outlook, we think that the Government s deficit targets 3% of GDP in 2013 and budget balance in 2017 will be missed. We forecast the deficit at 3.2% of GDP in 2013 and still around 1.5% of GDP in 2017. But we think that striving to achieve the official targets could be counterproductive, as it could deepen and lengthen the recession. Instead, it is important to achieve a rebalancing of public finances by lowering the tax burden and streamlining public expenditure in order to enhance the economy s efficiency. Ernst & Young Eurozone Forecast Winter edition December 2012 France 1
Focus on competitiveness is correct, but benefits may not appear for some years France is rightly focusing on enhancing competitiveness over the next few years. Making its products, services and production locations more attractive is essential to achieving sustained and robust growth. The challenge is significant and the positive impact of enhanced competitiveness is likely to materialize only slowly. Nevertheless, this should not deter the French Government or businesses from implementing reforms aimed at enhancing competitiveness. With France s neighbors and trade partners embarking on significant reforms, it is essential that the country keeps up with these changes. While not all Eurozone countries can hope to improve competitiveness at the same time, it seems that France is among those that should favor competitiveness-enhancing policies over demand stimulus. Indeed, with relatively high debt levels in the public and private sectors and losses in international market share over the past decade, seeking to boost demand would not be sustainable. Price competitiveness to redress Price competitiveness, which has steadily worsened over the past two decades, is a key focus of the proposed reforms. Initially, competitiveness mainly deteriorated against high-performing countries such as Germany, but in recent years it has also worsened against southern European countries where more significant reforms are under way. This has been partly the result of high non-wage costs. By 2012, we estimate that payroll tax and social security contributions amounted to 18.4% of GDP in France, compared with 17.2% in Germany, 11.6% in Italy and 8.8% in Sweden. Measures aimed at reducing the cost of labor can indeed provide a significant boost to growth by allowing French exporters to price their products and services at lower and more attractive levels. Simulations using our Global Economic Model suggest that lowering labor costs by 20 billion (1% of GDP), as proposed by the Government, could boost GDP by around 0.4% and cut unemployment by 350,000 within two years. Further increases in unemployment likely While it is a step in the right direction, the Government s decision to reduce payroll taxes will only have a limited impact on growth, partly because the reforms are ramped up to full scale over a period of several years. Moreover, some of the positive effects of lower payroll taxes will be offset by the negative impact on growth of higher VAT. We forecast GDP growth at around zero in 2012 and 2013, followed by an average of 1.2% a year in 2014 16. In the short term, a key concern remains the labor market. Unemployment has risen faster than we anticipated in the second half of 2012, up by 373,000 in the year to September (on the International Labor Organization measure). The flow of newly registered unemployed increased sharply in late 2008 when the global crisis heightened and has not fallen since, hovering close to 500,000 a month. Table 1 France (annual percentage changes unless specified) 2011 2012 2013 2014 2015 2016 GDP 1.7 0.1 0.2 1.1 1.2 1.3 Private consumption 0.3 0.0 0.4 1.0 1.1 1.2 Fixed investment 3.5 0.5-0.2 1.7 2.0 2.0 Stockbuilding (% of GDP) 0.4-0.6-0.6-0.4-0.4-0.4 Government consumption 0.2 1.3 0.3 0.5 0.8 0.9 Exports of goods and services 5.5 2.5 1.6 4.3 4.8 4.8 Imports of goods and services 5.2 0.2 1.8 4.0 4.7 4.4 Consumer prices 2.3 2.3 1.6 1.6 1.4 1.3 Unemployment rate (level) 9.6 10.5 11.0 10.9 10.7 10.6 Current account balance (% of GDP) -2.0-2.1-2.1-2.2-2.2-2.3 Government budget (% of GDP) -5.2-4.7-3.2-2.5-2.0-1.7 Government debt (% of GDP) 86.0 92.6 95.5 97.3 99.3 100.4 ECB main refinancing rate (%) 1.2 0.9 0.8 0.8 0.8 0.8 Euro effective exchange rate (1995 = 100) 120.8 115.4 115.3 112.9 110.2 110.3 Exchange rate ($ per ) 1.39 1.28 1.27 1.21 1.17 1.17 2 Ernst & Young Eurozone Forecast Winter edition December 2012 France
Business intention surveys suggest that companies are intending to reduce staff levels further. For instance, in October 2012 the Banque de France survey of services companies showed employment intentions at their lowest since the end of 2009 and well below historical averages. We forecast that employment will fall by 0.5% during 2013 and stabilize in 2014. At this point, the level of productivity measured as output per employed person would only have returned to pre-crisis levels. This implies a risk that the adjustment of employment levels turns out to be larger and more protracted. Purchasing power to start increasing again in 2013 High unemployment is one factor dampening consumer spending, which we expect to have been flat in 2012 overall. Consumers in particular are restraining purchases of big-ticket items. For example, we estimate that new car registrations will have fallen by nearly 15% in 2012. On the positive side, we expect that purchasing power will be boosted by a fall in inflation. We forecast average inflation will slow from 2.3% in 2012 to 1.6% in 2013. Indeed, depending on our forecast for commodity prices and the euro exchange rate, energy price inflation is forecast to fall from about 6% in September 2012 to close to zero next year. Beyond 2013, spare capacity in the economy in the form of under-utilized equipment and still-high unemployment will exert downward pressure on prices and wages. As a result, inflation should remain low, at 1.5% or even lower. This forecast does not yet include any increase in VAT, a measure that has been proposed by the Government in order to finance partly the payroll tax break. A VAT hike could have a significant, albeit short-lived, effect on inflation. Overall, this implies a small 0.4% increase in consumption in 2013, after no growth in 2012. In 2014 16, consumption should strengthen gradually as the economic environment improves and willingness to spend returns. We forecast consumption will rise by 1.2% a year on average. Restoring the confidence of businesses to invest The Government s competitiveness policies could provide a boost to investment, especially if they are followed by additional measures. This comes on the heels of a setback in the 2013 budget, which raised the tax burden on companies. So it will probably be some time before businesses can be confident that the policy environment is actually becoming more favorable for investment and recruitment. French businesses are likely to maintain a wait-and-see attitude as regards investment for some time. The Institut National de la Statistique et des Etudes Economiques (INSEE) reported the results of its survey carried out in October that showed declining investment intentions for manufacturing businesses. Moreover, according to the survey, the investment that is planned is of a neutral nature, principally to renew obsolete equipment rather than expand capacity. Figure 1 Impact of a 20 billion reduction in labor costs Figure 2 Unemployment % difference from baseline '000s difference from baseline 0.5 GDP (left-hand side) 500 0.4 Unemployment (right-hand side) 400 12 % Forecast 0.3 300 11 0.2 200 0.1 100 10 0.0 0-0.1-100 9-0.2-200 -0.3-300 8-0.4-400 -0.5 Year 1 Year 2-500 7 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 Ernst & Young Eurozone Forecast Winter edition December 2012 France 3
Focus on competitiveness is correct, but benefits may not appear for some years There are some encouraging responses in this survey. In particular, businesses do not seem worried about their ability to finance investment. Low interest rates are reported as a factor fostering investment much more than on average in the past and debt is not perceived as more of a constraint than has typically been the case. This suggests that once the confidence to invest is restored, companies will be well placed to do so. We think that investment growth is likely to be broadly flat in 2012 and 2013. It should then pick up in 2014 16 to average 2% a year. Quality as well as size of public budgets should be targeted Importantly, the Government has kept its commitment to reducing the public deficit and, in particular, to reducing public spending. The new tax credit will be partly financed by additional spending cuts. With government expenditure much higher in France than in other countries, there is room for efficiency improvements that would enhance the productivity of the economy as a whole. The restructuring of public finances under way at the Eurozone level gives rise to opportunities to emulate best practice in neighboring countries, be it seeking lower procurement costs or aiming for increased synergies between government departments, for instance. Because of our less optimistic growth outlook of 0.8% in 2013 and 2% in 2014, we think that the Government s medium-term deficit targets 3% of GDP in 2013 and budget balance in 2017 will be missed. We expect the deficit to be 3.2% of GDP in 2013, close to target, but still around 1.5% of GDP in 2017. We also think that striving to achieve the official targets could be counterproductive, as it could deepen and lengthen the recession. The impact of fiscal tightening on growth in the Eurozone may currently be larger than previously estimated. The International Monetary Fund has presented evidence in support of this view and the European Commission has acknowledged that the so-called fiscal multiplier (the ratio of change in GDP to the change in government spending that causes it) may be higher than one. Our own analysis, based on our macroeconomic model, supports this view, especially at times when other Eurozone countries are also tightening fiscal policy, which reduces the possibility to offset weak domestic growth by strong exports. Instead of pursuing more fiscal austerity when the initial deficit targets seem unachievable, it is better to reach a rebalancing of public finances by lowering the tax burden on the economy and streamlining public expenditure in order to enhance the economy s efficiency. Figure 3 Business investment Figure 4 Government deficit and debt b 60 Forecast % of GDP 100 Forecast % of GDP -10 58 56 54 90 80 Government deficit (right-hand side) -9-8 -7 52 50 70 Government debt (left-hand side) -6-5 48 60-4 46 50-3 44 42 40-2 -1 40 2000 2002 2004 2006 2008 2010 2012 2014 30 1990 1993 1996 1999 2002 2005 2008 2011 2014 0 4 Ernst & Young Eurozone Forecast Winter edition December 2012 France
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