French elections analysis: Let's hope Hollande was lying to get elected
Source: Courtesy of INSEAD Knowledge , Author: Professor Theo Vermaelen
Posted: Mon May 7, 2012 2:17 pm

INTERNATIONAL. François Hollande has promised to promote growth by increasing government spending such as hiring 60,000 more “fonctionnaires” and creating 150,000 government subsided jobs for young people.

He will increase the minimum wage, shorten the retirement age and increase taxes, including essentially confiscating salaries above  1 million euros and punishing the “enemy” (increase taxes on the financial sector).

He also will not sign the European fiscal treaty without a commitment to spend more European tax payers’ money. In my opinion this spells disaster for France as well as for Europe. France and Europe need the opposite strategy: reducing government spending and encouraging growth through the private sector by lowering taxes and social charges, as well as introducing labour market reforms to introduce labour market flexibility including the possibility to fire government bureaucrats. 

The election also sends a disturbing message to politicians all over Europe: if you endorse fiscal responsibility and attack the European Social Model, you are likely to lose your job.  Restructuring government finances, which essentially means creating short-term pain in order to promote long-term gain, is not obvious in a democracy. 

Too many people are addicted to the “free” lunches handed out by the massive growth of government witnessed during the last 50 years.

Financial Market Impact
If the much-hated financial market believes that Hollande is serious, French interest rates will rise, and the deficit will increase.  Ambitious people will refrain from investing and working in a country hostile to income inequality (inevitable consequence and driver of economic success) and as a result unemployment will rise as well. 

It is unlikely that Europe and the euro can survive another economic basket case after the PIGS (economies of Portugal, Italy, Greece and Spain).  Some of my more optimistic colleagues argue that when Hollande witnesses the failures of his policies, he will make a U-turn as Mitterrand did in the early 1980s. 

But I am afraid this will be too little too late. In 1980 the French government debt was 20 percent of GDP, while today it is 80 percent.   What is more likely is that economic chaos will encourage the growth and influence of more extremist political parties, both on the right and the left, with unpredictable consequences.

Of course my pessimism is based on the assumption that Hollande will do what he said he will do.

I am still hoping that he was simply lying to get elected.

Note: Theo Vermaelen is Professor of Finance and the Schroders Chaired Professor of International Finance and Asset Management.  He is the Programme Director for Corporate Financial Strategy in Global Markets and Co-Director for Global Investors Workshop, part of INSEAD’s portfolio of executive education programmes

This article is republished courtesy of INSEAD Knowledge

Copyright INSEAD 2012

 

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