France’s credit downgraded over reform doubts

A credit downgrade for France struck a new blow at the struggling French government and clouded the fragile eurozone recovery, but President Francois Hollande stood defiant.

The one-notch downgrade from “AA+” to “AA” by rating agency Standard and Poor’s (S&P) on Friday is the latest sign of deep economic, political and institutional tensions in France, the second-biggest economy in the eurozone after Germany.

Analysts warn that France is now the weak link in the eurozone as it struggles into recovery.

Standard and Poor’s chief economist Jean-Michel Six told AFP: “We do not see any overall plan to redefine public spending to release potential for growth” which would be “extremely weak growth.”

All three major rating agencies had already stripped France of its top-grade triple-A status but S&P was the first to downgrade it for a second time, warning that the economic reforms of the past year were not sufficient to lift growth.

The downgrade reflected fears that the government may struggle to push through further unpopular changes due to violent protests against its budget policy and record low opinion poll ratings for Hollande.

Hollande said his Socialist-led government was committed to making all possible budget savings measures but not at the price of sacrificing France’s generous welfare model.

He reacted indirectly but defiantly to the downgrade, telling a meeting with global financial institutions on Friday that he would stick to his strategy and hold his course on economic reforms.

If France does not change tack, it condemns itself to further long-term decline.

by Holger Schmieding, Economist, Berenberg Bank

“This policy … is the only one that can guarantee our credibility and we can judge that from the low interest rates on the markets,” he said at a World Bank conference in Paris.

But the downgrade pushed up France’s 10-year borrowing rate sharply to 2.391 percent from 2.158 percent and depressed French shares.

Data released on Friday showed a surprise drop in industrial production in September and a wider trade deficit, underscoring weakness in an economy where unemployment is stuck at around 11 percent.

S&P adjusted its outlook for French debt to stable from negative, citing Hollande’s commitment to containing net debt, which it expects to peak at 86 percent of output in 2015.

Hollande’s government has enacted a modest reform to add flexibility to the labour market and a review of its generous pension system, aimed at narrowing funding shortfalls.

But the latter in particular was less than expected by the European Commission, which urged Paris this year to make structural reforms in return for giving it an extra two years to bring its public deficit within EU targets.

“If France does not change tack, it condemns itself to further long-term decline,” Holger Schmieding, an economist at Berenberg Bank, wrote in a research note.