03 June 2013

IMF: France - 2013 Article IV Consultation—Concluding Statement

The growth strategy should rest on the following pillars:

• Raising the economy’s capacity to create value and generate productivity gains through increased competition in product and services markets.
• Building on the momentum of the labour market reform negotiated by social partners to create better labour market outcomes and to reduce rigidities.
• Strengthening activation policies and improving the efficiency of social transfers to raise the employment rate at both ends of the age structure and to shorten the duration of unemployment spells.

The stability of public finances requires that the consolidation effort be continued over the medium term. Following three years of substantial fiscal adjustment, there is scope to moderate the pace of consolidation going forward, provided the effort is concentrated on the expenditure and backed by continued structural reforms. Balance sheet restructuring on the part of banks has greatly reduced financial stability concerns, although reaching regulatory liquidity ratios remains a challenge requiring continued improvement in funding structures.

The overarching policy challenge is to restore competitiveness and revitalise growth through mutually supportive fiscal, financial, and structural policies, with emphasis on:

• Building on the reforms undertaken (Crédit Impôt Compétitivité Emploi (CICE) and Accord National Interprofessionnel (ANI)) to facilitate a more productive use of human and capital resources, including through increased competition in product markets and continued adaptation of labour market institutions.
• Pursuing fiscal consolidation at a steady pace in structural terms (allowing automatic stabilisers to work) and anchored by an explicit expenditure containment targets backed by improved targeting of social transfers and a lower government wage bill (in per cent of GDP).
• Solidifying the significant progress achieved in terms of financial stability, including by spearheading the move towards banking union, and ensuring that financing needs are met as financial institutions adjust to new prudential requirements.

The fiscal consolidation needed to restore the health of public finances remains substantial over the medium term, but measures should be concentrated henceforth on the expenditure side. The heavily front-loaded adjustment expected in 2011-13 covers 2/3 of the cumulative effort needed over the medium term, even if it has been at the cost of a procylical fiscal stance. The transition to a structural deficit target under the Loi de Programmation des Finances Publiques (LPFP) and the Stability Programme is a welcome change in the fiscal policy framework. By filtering out the cyclical component of the deficit, a structural target will eliminate the need for inefficient stop-gap measures to meet nominal deficit targets in the face of changing macro-economic conditions.

In the IMF's view, the move to structural deficit targets should also be the occasion of anchoring the adjustment strategy to an explicit expenditure containment objective. Going forward, the medium-term balanced budget target should be achieved by acting solely on this policy lever while maintaining the overall level of taxation (in relation to GDP) unchanged from its current level. The recurrent use of revenue measures to fill budgetary gaps has not only raised the overall tax burden to excessive levels, but has also undermined business and household confidence. Greater predictability in tax policy would remove uncertainty that weighs adversely on business and household spending decisions. This said, within an unchanged overall tax burden, there is considerable scope to reduce distortions by closing tax expenditures while lowering rates.

The first two opinions issued by the newly-created fiscal council (Haut Conseil des Finances Publiques) attest to its independence and professionalism. The mission considers that the council’s recommendation to base budget projections on less optimistic macro-economic assumptions would help protect against negative surprises and increase the predictability of policies. The council will play a critical role in assessing the realism of the macroeconomic and fiscal assumptions underlying the 2014 budget.

Signs of stabilisation in the cost of risk in the first quarter of 2013 are encouraging, but continued vigilance is necessary to ensure adequate provisioning levels given uncertain recovery prospects. The ACP’s (Autorité de Contrôle Prudentiel) extensive knowledge and intrusive monitoring of bank balance sheet risks reduces potential concerns about adequacy of capital buffers that could emerge in the run-up to the European Banking Authority-led Asset Quality Review (AQR) in late 2013. Regular assessments by ACP of the quality of balance sheets (e.g. reviews of banks’ internal risk models and origination standards as well as semi-annual stress-test exercise) suggest that the French banking system is comparatively well positioned ahead of the AQR. Nonetheless, given current uncertainty about the factors behind the low risk ratios of French banks relative to European peers and limited public disclosure of financial sector data, the ACP should consider publishing detailed updates on the various supervisory reviews it has already concluded on the reliability of banks’ risk weights, as well as a summary of the main findings of its semi-annual stress-test exercise to provide guidance to market participants on the quality of balance sheets and their resilience to deteriorated economic conditions.

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