Can France Halt Its Decline?

December 5, 2013 Topic: EconomicsFinancial RegulationPolitical Economy Region: France

Can France Halt Its Decline?

Reform proposals may be too little, too late.


Talk of reform has put French economic policy back into the headlines and brought much skepticism, too. Enthusiasm would be well warranted were Paris truly to lift its outsized business tax burdens, stultifying labor regulations, and constraining product rules. That kind of reform would head off the grim economic and financial future otherwise facing France, including a loss of influence within the European Union (EU) and the prospect of finding itself numbered among Europe’s beleaguered periphery. Sadly though, recent talk of reform sounds neither sincere enough nor sufficiently broad-based to address France’s deep-seated problems.

Those who would turn the French economy certainly have their job cut out for them. Apart from the occasional rays of sunshine, France, since before the global financial crisis of 2008-09, has suffered a steady decline in worker productivity and business profitability. Exports have fallen short, both to destinations within Europe and outside it. Paris’ budget deficits remain stubbornly high. Public debt outstanding has grown both absolutely and relative to the economy’s ability to carry it. Factories continue to close at disconcertingly high rates, businesses to fail, and rates of new business formation, a key indicator of both economic health and confidence, to lag, standing today about 14 percent below the rate of 2009 during the depths of the global recession. Layoffs also continue. There is little new hiring. The unemployment rate, about 11 percent of the workforce today, 26 percent for French youth, will, according to IMF and other forecasters, likely rise further in the new year.


Though many French politicians blame those problems on German-imposed austerity and the lingering strains of the 2008-09 crisis, it has long been apparent, even to many in France, that the country’s economic and financial shortcomings stem from Paris’ own ill-conceived social-economic model. That model burdens French business with payroll and value-added taxes (VAT) that combined approach 53 percent, higher than most other nations, even in notoriously high-tax Europe. Paris adds still more to the cost of doing business by imposing high minimum wages, far higher than elsewhere in Europe and, according to French managers, beyond the productive power of many workers. Labor laws further raise the cost of doing business by imposing a strict thirty-five-hour workweek, a retirement age of only sixty years for some, and generous vacation as well as family leave benefits. Strictures make firing and layoffs so expensive and difficult that French businesses are loath to hire. Meanwhile, generous welfare and unemployment payouts discourage work and effectively waste the nation’s labor resources. Under all this weight, French business has seen its productivity slide, its cost effectiveness deteriorate, and its ability to respond flexibly to economic and market challenges impaired.

Though the need for reform is clear, Paris still sounds less than serious. To begin with almost all the push for change has come from abroad. The International Monetary fund (IMF) has led the charge, to so speak. Indeed, its criticism has managed to embarrass Paris deeply by also pointing out how at the same time as a lack of reform has held France back, reforms in Europe’s periphery nations, Greece, Portugal and Ireland, have produced major gains. German president Joachim Gauck, though seldom political, has pointed to the need for French reform. The EU has made reform an informal condition for allowing France latitude on its budget deficits. The Organization for Economic Cooperation and Development (OECD) and the European Central Bank (ECB) have joined the reform chorus. Most recently, the credit-rating agency, Standard & Poor’s, amplified all such calls as it reduced France’s credit rating a second time from AA+ to AA. All three major rating agencies have reduced France’s rating. Fitch poured salt in the wound of its downgrade by upgrading its outlook for Spain at the same time.

Certainly, President François Hollande response to this pressure raises doubts about French action. Unsurprisingly, his initial reaction was one of indignation, outrage that anyone would dare tell Paris how to run its economy. There is little else a French president could say at first. But then he neither justified France’s approach nor took the guidance seriously. He suggested that Paris is ahead of its critics, pointing to a government commission formed not too long ago under a prominent business leader, Louis Gallois, to identify the economy’s problems and make recommendations. The commission spoke of changes similar to those advanced by these foreigners. But this presidential gesture is weak at best, since the Gallois commission is only the last in a long line of such reform commissions, all of which have made similar recommendations and none of which has elicited much response from either socialist or conservative governments, much less substantive reform.

Meanwhile, the few actual reform proposals coming out of Paris can only be described as muddled. The government has talked about business tax relief, but at the same time has pushed an increase in the top individual tax rate to 75 percent. Even the proposed business tax relief would really only move the burden from direct payroll taxes to the VAT and then only selectively. Prime Minister Jean-Marc Ayrault floated the idea of tax reform not too long ago, but nothing concrete has materialized. Then, to dampen whatever hopes might have arisen from his offhand remarks, he went out of his way to say that Paris had no intention of cutting overall tax burdens. To muddle the picture still further, Hollande has also began to reverse some of the business tax relief enacted by the previous government. Paris, presumably in an effort to raise confidence, has promised a “tax pause.” But this has hardly encouraged people. A “pause,” after all, implicitly promises hikes at a future date.

The government did make some effort last spring to relax its onerous labor regulations, but here, too, policy has hardly moved boldly. The recent reforms have, for instance, shortened the time an employee has to challenge dismissal. But this is a baby step in addressing a huge, complex, and burdensome code. What is more, Paris only made this concession to business on condition that it cooperate with government employment goals. Nor do new efforts to encourage investment and innovation break out of France’s strict bureaucratic control. Paris has offered special financing to encourage what it refers to as the “industries of the future.” But it has steadfastly avoided a market solution. Rather, the bureaucrats in Paris will determine where the new financing flows. In a reprise to Prime Minister Ayrault’s tease on tax reform, he has also hinted that the government might loosen the strict thirty-five-hour workweek. No concrete proposals have materialized.

The gestures may relieve some of the diplomatic pressure. They may even cool the criticism coming out of the rating agencies. But they are too weak to change the country’s grim economic reality. Certainly, French business is neither fooled nor enthusiastic. Investment spending has continued to decline and business confidence remains at low ebb. The best that the head of France’s business lobby, Pierre Gattaz, could say is that “we will have to be very vigilant.” As much as all would like this talk of reform to produce something substantive, the likelihoods remain less than encouraging and still point to France’s economic decline.

Milton Ezrati is senior economist and market strategist for Lord, Abbett & Co. and an affiliate of the Center for the Study of Human Capital and Economic Growth at the State University of New York at Buffalo. He is the author of Kawari, a book about Japan’s economic and financial challenges. His new book, Thirty Tomorrows, linking globalization to aging demographics, is forthcoming from Thomas Donne Books of Saint Martin’s Press.

Image: Fotopedia/Chris Willis. CC BY 2.0.