France: What Happens Now?

In bringing down Michel Barnier's government, Marine le Pen and the French left are betting that a political crisis won't become a financial crisis. But it may not stay that way for long.

Photo by ev on Unsplash

So Michel Barnier has become the shortest serving prime minister in modern French history following a vote of no confidence in the French parliament. At least he has the consolation of having lasted longer than Liz Truss. And unlike the former British prime minister, he can take satisfaction from the fact that his defenestration following parliament’s rejection of his 2025 budget makes him a martyr to fiscal responsibility rather than a global laughing stock ousted for budgetary recklessness. The big question is what on earth Barnier’s opponents think they are doing and whether France’s Liz Truss moment lies ahead.

Until a few days ago, the conventional wisdom in the markets was that Barnier would ultimately get his budget on the basis that Marine Le Pen, the leader of the National Rally, would not want to be blamed for causing a crisis when she is trying to present herself as a responsible politician. After all, why not let the unpopular minority government take responsibility for a budgetary tightening that needs to happen anyway? Yet not even €10 billion of last minute concessions from a €60 billion budget was enough to sway her. It seems that any association with the budget was too much to bear when all the left-wing parties, including the supposedly centrist Socialist Party, were determined to vote it down.

Le Pen, along with the rest of Barnier’s opponents, have clearly calculated that while this is a political crisis, it is not a financial crisis. To be fair, that may be a reasonable bet. The yield on 10-year French government bonds may be 0.8 percentage points higher than that on German equivalents, which is the highest spread since 2012, but that is still well below their eurozone crisis era peak, let along the crisis spreads on southern European bonds. Besides, thanks to recent European Central Bank interest rate cuts, French borrowing costs are actually lower today than they were when Emmanuel Macron called parliamentary elections in July. Another cut is expected in December.

Why have French government bonds not sold off more as a result of the political brinkmanship? And what might lead to a deeper financial crisis?