The doves at the European Central Bank spearheaded by ECB President Mr Draghi have longed for an adjustment in the fiscal policies for key European countries.
As one of the European economic giants, the French government in its 2020 budget presentation announced a public deficit of 3.1% of GDP for 2019 which is significantly higher than the 2.5% registered in 2018. For next year, the government is projecting a public deficit of 2.20%. In addition, the French government growth forecasts are 1.4% and 1.3% which indicates that the output gap for the French economy should narrow.
In economic theory, this should produce inflationary pressures, however, in ‘real-life’ theory it is well understood that it is the magnitude of such narrowing in output gap is what will determine forward inflation. Let’s not forget that inflation is a positive economic signal, as it shows that any economy is growing through consumption and driven by consumer demand.
The 3.1% public deficit for 2019 includes one-off effects of a whole one percentage point on GDP due to tax credits that shall replace employer social contributions, impact on the income tax system known as pay-as-you-earn system.
Indeed, if these one-off effects were to be excluded the deficit would stand at 2.1% of GDP in 2019, even when the yellow vest package is included. All this shows that the French government is currently fiscally neutral.
Despite the neutral fiscal position for the French government, tax cuts on households have been undertaken in line with the yellow vest protests. The overall accumulated fiscal boost represents €20.7bn since 2018 which could be considered a pittance for it to be effective on a national scale (c.0.87% of GDP). The key consideration remains whether France has the fiscal flexibility to stimulate its own economy.
The European Commission and the Excessive Deficit Procedure
Given that France’s public deficit is above 3% of GDP, the European commission will be scrutinising the nation as it did earlier this year to check whether a breach shall be considered. The same happened with other notable countries, including Italy which is a topic in itself. Non-compliance with the EDP (Excessive Deficit Procedure) may still be considered by the European Commission given that the key metrics, such as the debt-to-GDP ratio is not declining rapidly enough. However, given that 2020 deficit projections are well below the 3% figure, the EC is likely to factor this in its decision.
Excessive Deficit Procedure precluding fiscal easing for France
The yellow vest protests in December 2018 and fiscal adjustments carried out in April 2019, have resulted in measures intended to improve purchasing power for the middle class, including pensioners. The government sought to decrease the public spending ratio set at 56% of GDP in 2019, which is slightly below the 2018 level.
In conclusion, the keynote observation is that the current fiscal position for France (which is the second largest Euro area country) is precarious given the European Commission rules which are rigid with no flexibility to enact fiscal stimulus. The economic predicament of key Euro Area nations relies heavily on a well-coordinated set of economic policies. Calls for European governments to fiscally boost their economies means that the European Commission must carry out changes in its public deficit assessment. Moreover, the European Commission must ensure that fiscal spending is carried out responsibly and curb populist spending.
This article was issued by Jesmar Halliday, Discretionary Portfolio Manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt . The information, view and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.