An ‘atomic bomb’ is hovering over France’s economy

October 10, 2014

France's President Hollande and German Chancellor Merkel talk during a conference on jobs in Milan

An “atomic bomb” is about to blow up in “the confrontation between Paris and Brussels.”

It was in these terms that Le Figaro, perhaps the most influential French newspaper, reported the European Commission’s near-certain rejection of President Francois Hollande’s 2015 budget on Oct. 29.  That is the date the commission must issue a judgment on the French budget, which proposes a two-year delay in reducing the  budget deficit to the EU-mandated maximum of 3 percent of gross domestic product.

German Chancellor Angela Merkel has insisted that she will not tolerate any such relaxation of the European Union’s new, toughened budget rules. Meanwhile, Hollande has stated repeatedly that France will refuse any demands from Brussels for more cuts.

A full-scale budget war between Paris and Berlin/Brussels looks inevitable, with catastrophic effects on the European economy and markets. But on closer inspection, this impending budget battle is no more lethal than the fiscal shadow-boxing in Washington last year.

To see what is really happening, we must understand the motivations of Merkel, Hollande and the new European Commission president, Jean-Claude Juncker. All three share the same objective: to preserve the euro, not blow it up with an “atom bomb.”

French President Francois Hollande addresses a news conference at the Elysee Palace in ParisBut this overriding priority is subject to several constraints. Merkel must prove to the German public that EU budget rules have been genuinely tightened. Juncker must show that his new European Commission, which takes over on Nov. 1, will be tougher than its predecessor in enforcing these rules. Yet both Berlin and Brussels must avoid humiliating Hollande.

How can these conflicting objectives be reconciled? The answer, as usual in Europe, is with bureaucratic conjuring tricks, helped by the incredible complexity of the EU budget process.

Exploiting the flexibility in all the new fiscal regulations introduced in the euro crisis, officials in Paris, Berlin and Brussels are moving toward a resolution of the French budget problem based on three factors: politics, economics and bureaucratic procedure.

Starting with politics, the key point is that while the EU budget rules were agreed to by national governments, led by Germany, enforcement is up to the European Commission. Governments, and specifically the German government, have no direct input into the assessment of national budgets. This is overseen by the commissioner for economics and monetary affairs, now Finland’s Jyrki Katainen, but due to be replaced on Nov. 1 by the former French finance minister, Pierre Moscovici. Responding to German misgivings that Moscovici might show “favouritism” to the French budget (which he largely wrote), Juncker created a new procedure whereby Moscovici’s judgments will be co-signed by another commissioner, Latvia’s Valdis Dombrovskis, reputedly a fiscal hawk.

But Dombrovskis has conveniently turned more dovish since his appointment, telling the European Parliament that “we are now gradually moving from the stage of fiscal adjustment which … has by and large been done.”

Elected president of the European Commission Juncker answers journalists questions during a press briefing after his election at the European Parliament in StrasbourgIt seems, therefore, that Juncker has pulled off a clever conjuring trick. By supervising Moscovici with an apparently tough Northern European, he has satisfied German public opinion. But this “hard cop” is actually pre-programmed to support a lenient approach.

In addition, the timing of the budget judgment means that Moscovici will not bear direct responsibility for judging the French budget. For the initial assessment must be completed by Oct. 29, two days before the new commission is installed.

So political arrangements are now in place to permit a flexible approach to the French budget. But how could this be reconciled with the EU’s fiscal rules?

This brings us to economics. The commission will almost certainly refuse to accept the French budget because of its failure to meet the 2015 deficit target. The headlines about “rejecting” the French budget will thus be justified, and German opinion will be reassured.

The demands for revision, however, can be made quite moderate and acceptable to France because the commission’s assessment is based not only on a “top-down” macroeconomic analysis of the budget numbers but also on “bottom-up” judgments about the fiscal “effort” the country has made. Under the rules, the commission can defer the 3 percent deficit target until 2017 — what France is proposing — provided the bottom-up assessment shows “sufficient” effort in structural and fiscal reforms.

Better still, the commission can satisfy Germany by “rejecting” the French structural efforts as “insufficient” so far. But it can then ask that additional bottom-up structural measures be introduced in the long term, instead of demanding the immediate top-down budget cuts unacceptable to Hollande.

Beyond this political and economic flexibility, the EU’s bureaucratic procedures provide a third line of defense for France. The new fiscal rules require national budgets be submitted by Oct. 15 and give the commission two weeks to make its initial assessment — hence the Oct. 29 “confrontation” predicted in the French media. The French government then has three weeks to respond with a revised budget, and Hollande has made clear that he cannot submit any revisions to his budget to the French parliament on anything like that timetable.

Does this mean a war between Paris and Brussels? Not at all. Instead of a genuine confrontation, Hollande’s inability (or unwillingness) to implement new measures by mid-November will merely set off a new round of negotiations and assessments for the following six months — the so-called European budgetary “semester” provided for under the new fiscal rules.

Only at the end of this process, in April 2015, will the commission issue a new set of forecasts, deficits projections and conclusions, based on whatever reform “efforts” France may or may not have made. Only then will the European Commission raise the question of enforcing tougher budget demands.

By that time, the French economy will either have improved, making emergency budget cuts unnecessary — or it will have deteriorated further, making cuts impossible.


PHOTO (TOP): French President Francois Hollande (L) and German Chancellor Angela Merkel talk during a conference on jobs in Milan, October 8, 2014. REUTERS/Stringer

PHOTO (INSERT 1): French President Francois Hollande addresses a news conference at the Elysee Palace in Paris, September 18, 2014. REUTERS/Christian Hartmann

PHOTO (INSERT 2): Elected president of the European Commission Jean-Claude Juncker answers questions during a press briefing after his election at the European Parliament in Strasbourg, July 15, 2014.  REUTERS/Vincent Kessler



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Wow..After reading this article ‘Machiavellian’ comes to mind.

Posted by john202 | Report as abusive

I snickered at the comment that “… both Berlin and Brussels must avoid humiliating Hollande.” He’s done enough self-humiliation to not need to worry about the EU’s political machinations.

Posted by euro-yank | Report as abusive

A good explanation of how stupid the whole EU structure is.

Essentially, it’s perfectly possible for countries to ignore all the rules, as long as they don’t look as if they are ignoring all the rules and they avoid actually making any serious reforms, as long as it looks like they are trying.

Posted by Alisdair | Report as abusive

This Euro issue and most issues stem from the basic human nature traits of the lazy living off the not-lazy.

Look at how many skilled jobs are unfilled- yet people whine that there are no opportunities. When you tell them to get a student loan, earn a degree in something useful like computer science, they don’t want to make the effort. They want instead a 20 euro an hour job selling cheese.

Posted by Factoidz | Report as abusive

>degree in something useful like computer science

In the US,that’s the one of the last degrees folks should be looking at.

Ageism(over the hill at 40),H1B’s flooding the market depressing wages for IT workers and major corporations like Apple and Google conspiring to artificially push their workers wages lower by agreeing not to recruit each others employees.

Yeah,let me rack up a $200K student loan for that.

Posted by ih8npr | Report as abusive

“Hollande has stated repeatedly that France will refuse any demands from Brussels for more cuts.”

I suspect that, like the U.S. deficit, it won’t even require genuine budget cuts to bring the French deficit under control; it would merely require smaller budget increases.

Posted by Jessica_Tufts | Report as abusive

Factoidz: Speak for yourself, scuzzb*tt. Like millions of deranged economic fundamentalists you sound like you have all the answers. Why it’s all those lazy, uneducated, unwashed poor that are devouring our: taxes/savings/way of life. Euro issue aside, ‘most’ issues do not stem from what you ascribe.

Plenty want to and are making an effort but when vested interests pour dendrite killing propaganda into little fearful minds all you get is regurgitated Ayn Rand-isms such as ‘hey, there’d be no accidents if we all just got rid of traffic lights and stop signs.’ Riiiiight. Who’s calling the shots in this day and age? The poor? I think not. Sure many are a drag on the economy but don’t throw out the baby with the bathwater.
Plenty are working to get out of what, in many case, the economy dumped on them. Many are desperately searching for work. Don’t kid yourself that everyone on the dole, anywhere, is a taker.

As an example re: the Euro, Greece wasn’t screwed over until politicians overextended. Not what the people voted for by Gosh. Chalk it up to all those poor if it shoos away your fears. Germany vs. France is a perfect example of the whole Euro dichotomy. France reportedly graduates more engineers than any country in Europe, but their mixed up policies waste the talent. They’re leaving for the UK and US. France will someday wake up to reality/a political revolution. Meanwhile, Germany has generous policies yet they are the model of the continent. I think more has to do with Labor issues than simplistic answers about welfare, etc. Lastly, lets not exaggerate too much. Some may aspire to only a 15 euro/hr job selling cheese. Others may deserve 20/hr as a cheese hawker if the locale supports it.

Posted by Mac20nine | Report as abusive

The EU’s basic problem is their pursuit of austerity in response to recession, a dangerous and dis-proven strategy. The US used some stimulus and a large measure of quantatative easing and they are in much better shape, with a larger debt but they are now in a position to pay it down, without the institutional unemployment many countries in Europe face. Much like during the Great Depression, they will balance their budgets and live with high unemployment unless something fortuitously happens to ramp up their economies, it could go on for a decade, Spain and Italy will limp along.

Posted by George286 | Report as abusive

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Posted by | The Socialist | Report as abusive