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Is France a ‘Peripheral’ Country?

by | May 8th, 2013 | 07:08 pm
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A few weeks ago Reuters reported that the French finance Minister, Pierre Moscovici, fell asleep during the final late night negotiations over the Cypriot bank bailout on March 24. It apparently fell to the International Monetary Fund (IMF) managing director, Christine Lagarde—a former French finance minister herself—to wake him up. No doubt the grueling round-the-clock schedule of the Cyprus negotiations would have taxed the most vigorous participant, but that should not stop speculation about the meaning of what happened.

For any leading euro area finance minister to doze off during key negotiations to settle the economic future of another euro area member is an embarrassing dereliction of duty. Perhaps Mr. Moscovici was assured that his 70-year-old old German counterpart, Wolfgang Schäuble, would defend French taxpayers’ interests. Moscovici’s staff—which failed to wake him up—seemingly agreed. Or perhaps Paris simply viewed the German-led bail-in solution in Cyprus as a fait accompli about which they could do little. Or perhaps the French government’s support for costs imposed on creditors and uninsured depositors was stronger that it wished to acknowledge. Taking a nap during the negotiations could thus have been a subtle way of Moscovici stepping outside the door at the key decision moment.

The other euro area finance ministers could probably be forgiven for letting sleeping ministers lie. But by failing to wake Moscovici up, they effectively rendered France’s potential input as irrelevant. Probably to avoid that implication, Lagarde woke up her successor.

Whatever the underlying motives for Moscovici’s sidelining at the Cyprus negotiations are, the broader reasons for France’s evident loss of influence in the EU since the beginning of the crisis are several.

Paris has been hit by bad timing luck in European affairs. My colleague John Williamson once explained that a period of “extraordinary politics” follows serious crises, compelling leaders to establish new institutions, such as the so-called Permanent Five members (P-5) in the United Nations Security Council or the de facto clout wielded by U.S. and European members of the IMF Board resulting from their dominant global role in the 1940s. In European affairs today it matters for a country to be economically strong in a time of severe crisis.

Ironically, Chancellor Angela Merkel and Germany are reaping the unforeseen national benefits of reforms instituted by her predecessor, Gerhard Schöder, a decade ago in response to Germany’s status then as the “sick man of Europe.” Its weakness mattered little because nothing dramatic was happening at the time to the European institutional design following the collapse of the constitution treaty negotiated under the leadership of former French President Giscard de Estaing. Today Germany is strong when it matters, and able to play a leading role in the birth of important and permanent new European institutions like the updated fiscal surveillance framework (two-pack/six-pack, fiscal treaty), the European Stabilization Mechanism (ESM), and now the banking union. These redesigns have been largely devoid of obvious French fingerprints, even if France can take credit for helping to goad Germany into taking action at critical moments.

If Germany benefited from Schröder’s early reforms, France’s situation results from its profound misreading of the effects of the euro introduction, and the political dynamic of crises. Germany’s original agreement to give up the Deutsche mark for the euro back in the 1990s has historically been seen as a concession in return for France’s acceptance of German reunification. (Chancellor Helmut Kohl also saw the euro as a reunified Germany’s anchor in Europe.) With the euro’s advent, Paris was free from the yoke of having to pursue German monetary policies to defend the “Franc Fort” in the 1980s. The crisis, however, has bestowed disproportional political power to Germany, which as the euro’s anchor has been able to set the crisis response agenda.

For two decades, France has failed to reform its economy, yielding power to Berlin and the European Central Bank to demand domestic reforms in other euro area member countries. Meanwhile, the government of President Francois Hollande has done little to arrest France’s path of gradual decline since adoption of the Maastricht Treaty in 1992. Neither Presidents Jacques Chirac nor Nicolas Sarkozy succeeded from the center right, and the consensus seeking socialist Hollande does not seem to have the political will to face down entrenched special interests blocking reforms either. The alleged left-right divide in France is obsolete. Both sides favor the status quo and are fearful of street protests blocking any serious attempts at reform.1

The parallel with fears of “Arab street” protests blocking reforms in the Middle East is evident. But with its founding myth of storming the Bastille, France has embraced its identity as a place where farmers, truck drivers, and average citizens are easier to mobilize. By protesting, French citizens are engaging in an intrinsic element of being French. Like the National Rifle Association in the United States, French labor unions, public sector representatives and protected industries appeal to patriotic fervor to promote their political and economic interests. As a result, international competitiveness suffers, the size of the public sector continues to grow, unemployment rises and debt and deficits begin to approach damaging levels.

Unable to muster the political capacity to reform itself in the absence of a deep crisis, France fits the political definition of a peripheral country in the euro area, except that things have not gotten as bad as they have in Greece, Portugal, Ireland, and arguably Spain and Italy in recent years.

To be sure, France is far from an economic basket case. It has avoided the build-up of huge post-euro imbalances. It does not have Italy’s history of free-spending governments, and it enjoys some of Europe’s most favorable long-term demographics and a first-rate public infrastructure. Were it to experience a crisis, it is inconceivable that Germany (and the ECB) would not come to the rescue. As a result, despite the growing differentials in French and German economic competitiveness, unemployment and debt, France is likely to keep getting a pass from financial markets and tracking German interest rate levels closely.

Lacking financial market pressure, however, France’s status quo parties will likely continue to derive the functional equivalent of America’s “exorbitant privilege” and enjoy interest rates lower than its own economic fundamentals would dictate. France’s problem is not a sudden speculative attack, but rather continued malaise, stagnation, and decline.

Though he never used the word “malaise,” President Jimmy Carter described the American mood in 1979 in ways that seem suitable to the predicament in France: “The threat is nearly invisible in ordinary ways. It is a crisis of confidence. It is a crisis that strikes at the very heart and soul and spirit of our national will. We can see this crisis in the growing doubt about the meaning of our own lives and in the loss of a unity of purpose for our nation.”Hollande’s government continues to shun globalization by blocking foreign investments in France. The latest sad example is the blocking of Yahoo!’s proposed takeover of successful French internet start-up, Dailymotion. He has, on the other hand, overseen some new labor market rules accepted by the social partners, and has committed to reforms of the social insurance system later this year in return for a two-year delay in achieving a deficit target. But these consensus-driven steps are unlikely to shake France out of its paralysis or earn much respect elsewhere in the euro area, and especially not in Berlin.

The euro area’s required institutional reforms can be divided into two groups: one that is urgently required and one that takes the form of highly desirable institutional innovations. The most urgent steps that are needed to convince markets and voters that a euro collapse is not imminent include establishment of the ESM as a de facto European monetary fund to serve as a backstop if a euro area member loses market access; the ECB’s outright monetary transaction (OMT) program, serving as a conditional lender-of-last-resort; and the banking union, which will integrate banking supervision with resolution in cases of insolvent banks, and establish a system of deposit insurance. All these new institutions have been implemented under financial market pressure and in response to the political desires of Germany. France’s input has mattered little.

But neither financial markets, nor Brussels technocrats, nor central bank pressure can be factors in the other group of institutional reforms, such as deeper political and fiscal integration in the euro area and revisions of the EU Treaty. Only the democratically elected leaders of Europe can bring about these changes. These steps will be close to impossible to achieve without support and agreement from France and Germany, the two countries historically at the heart of the European integration project.

Regrettably, France’s lack of domestic economic reforms will ensure that Germany will likely refuse to discuss deeper fiscal and political union in Europe for the foreseeable future. The road to any potential form of euro area fiscal integration, whether in the form of debt mutualization or an increased euro area fiscal capacity, will have to pass through a French reform-driven domestic economic revival first. Germany will not agree to permanent-burden sharing with a France that does not reform itself first.

This does not mean the collapse of the euro or the European project, only an end to most longer-term progress on the project. Just as the United States political system can stagger through political crises with one of the two large parties on the political fringes, the euro area can stagger on under de facto German leadership for as long as France’s inaction exiles itself from real influence. As with the US fiscal negotiations, this state of affairs ensures that progress will be minimal, based on the least common denominator, rather than arrived at by a grand bargain between France and Germany.

France’s inability to reform itself puts Europe at risk, in short, and condemns France to subpar influence in Europe and thwarted aspirations. For its own sake and Europe’s, France must do better.

Note

1. I have benefited from many discussions with my colleague Nicolas Véron about the “status quo party” in France.