The Socialist president of France, François Hollande, elected some four years ago on an anti-finance, anti-wealth, pro-labor platform, has been trying over the past two years to move the nation’s economic policies and regulations more to the center. Though France’s is the second largest economy in the eurozone and fifth largest in the world, the French economy’s continued underperformance provided ample evidence, even to the Socialist policy makers, that supply-side, pro-market economic reforms were needed. The 75% top tax rate promised by Hollande was the first unworkable policy to go, dropped after only two years. About the same time, some 40 billion euros in tax breaks were provided for companies. Then a bill to extend Sunday trading hours and open a few sectors to competition was passed despite the opposition of some Socialist legislators.
Mr. Hollande’s government is now engaged in its most ambitious effort to make the French economy more flexible and efficient through a reform of France’s labor code, which is full of rigidities. The draft law would make it easier for French firms to adapt to changes in the business cycle and to negotiate longer working hours with their employees. The law would greatly diminish and possibly eliminate the mandatory 35-hour week, making 35 hours not a weekly maximum but essentially just a trigger for overtime pay. The initial draft law was strongly opposed by the labor unions, a key force in the Socialist Party despite the fact that only 8% of French employees belong to a union. Student organizations, the usual shock troops of opposition to reforms, have joined the protests.
Following a week that included a day of nationwide protests, on Monday the Socialist government dropped some important provisions from the bill that would have benefited small companies by limiting the amount judges can require employers to pay in cases of wrongful dismissals. Without such a limit, small firms will continue to be reluctant to provide permanent contracts, as some judges have levied excessively large payouts. The measures benefiting large companies have been maintained. The concessions are serious, considering the important role small companies play in job creation. Still, if the bill is passed in its current form, it will amount to a substantial labor market reform. Hollande’s willingness to continue to fight this battle despite opposition from within his party suggests that he is hoping to attract voters in the center away from the likely opposition candidate, Sarkozy, who is moving further to the right.
While the revised industrial production for January looks strong, business activity in France declined in February for the first time in more than a year, according to Markit Composite Purchasing Manager survey data. Both businesses and consumers are reported to be reluctant to increase spending, and hiring trends remain weak. The reforms to date are steps in the right direction, but a great deal more needs to be done to inject more dynamism in the economy and boost economic performance to the eurozone average.
Despite this relative weakness, investors in France’s equity market, the largest in the eurozone, appear to be encouraged by the government’s market-friendly policy moves. Also, French equity valuations look attractive, and the European Central Bank’s additional monetary stimulus moves announced last week should be bullish for all eurozone equity markets. Over the past month through March 14, the iShares MSCI France ETF, EWQ, is up 11.80% and is up slightly, 0.17%, year-to-date. This is somewhat better than Germany’s market performance: the iShares MSCI Germany ETF, EWG, is up 10.36% over the past month, yet is still down 3.63% year-to-date. We have not yet taken a position in either France or Germany this year, but we are monitoring developments in these and other eurozone markets closely.
