France is losing its sanity premium as chaos reigns

For most of the euro’s history, investors took the view that the second-largest economy in the Eurozone would muddle through its political and economic challenges and remain a relatively safe bet. That idea is not holding any more.

A global selloff in government debt has turned into a rout that is hitting France harder than almost anyone else, and far harder than anyone expected. The French 10-year bond has just recorded its worst quarterly performance since the birth of the single currency, and, at 4.9%, is approaching its highest level since 2002.

This week its spread over the equivalent German Bund touched 145 basis points, a level last seen in the depths of the eurozone crisis.

The proximate cause is basic budgetary arithmetic. Markets had expected some sort of fiscal consolidation this year, with the deficit narrowing to under 5%. Instead, it has gone the other way, and is now forecast to be at least 5.12%, according to Bloomberg. Public debt is now almost 120% of GDP, almost twice that of Germany’s.

The country’s interest bill alone is now greater than what it spends on defence or education. Investors are openly starting to question whether Paris could be the new Athens.

Paris is in political gridlock

But the deeper malaise is political. Markets – such as Italy’s or Japan’s – can tolerate high debt when they believe a government can manage it. What they cannot tolerate is the perception that no one is in charge.

France is looking increasingly rudderless. Last week the government unveiled spending cuts aimed at cutting the gaping budget deficit. “It is a question of credibility, a question of confidence,” said Finance Minister Roland Lescure. “We are capable of doing it.”

Perhaps. But the plan must pass a fractured National Assembly that has repeatedly unsettled investors by toppling one prime minister after another – since the 2024 snap election, France has gone through four governments, one of which lasted barely 14 hours. Every failed government has added to the impression that the problem is less economic than political. This is a country in which everyone knows what needs to happen but institutionally lacks the ability to get it done.

The public mood is darkening. Debt has climbed the list of voter concerns, bond yields are front page news, and ongoing student protests over crumbling, overcrowded schools have ended in violent clashes with the police. These domestic pressures are being compounded by external ones, as energy prices spiral and the European Central Bank threatens further interest rate hikes to get on top of gathering inflation.

The economic costs to Europe of US President Donald Trump’s grand folly in the Strait of Hormuz, and wild spending on the AI boom, have made debt investors skittish about risk of all types, most of all French sovereign debt.

Markets are duly starting to punish the country in a way they have not before. What France is losing is its “sanity premium” – the long-standing belief that it was unthinkable for Paris to be considered equivalent to the eurozone’s periphery. Now, French bond yields are trading higher than those of Italy and Greece.

La fin de Macron

The political timetable ahead makes it all even more worrying. In May 2027, voters disillusioned by a decade of centrist rule under Emmanuel Macron will choose his successor. Recent polling suggests that the second round could come down to Marine Le Pen of the far-right National Rally against Jean-Luc Mélenchon, the far-left firebrand who has repeatedly called for French debt held by the central bank to be cancelled. This would be a worst-case scenario for markets.

That this is even a possible outcome is a brutal indictment of the centre. Macron, a former investment banker, arrived in 2017 promising a pro-business revival that would restore economic growth and dynamism, and lure foreign capital. He leaves with France’s finances in shambles and its economy as Europe’s weakest link. If a supposedly capable manager of the economy delivers this outcome, voters quite reasonably should be asking why not try something more radical.

Nor would a centrist victory necessarily help. Even if a moderate squeezed through, they would still face a potentially impossible task of forging some kind of majority in the National Assembly. So fragmented is France’s political landscape, it is increasingly looking all but ungovernable.

Europe’s problems

France’s size and importance mean its woes will not remain domestic. A disorderly repricing of French debt could spread through bond market contagion, erode the eurozone’s already battered fiscal rules and weaken institutional stability at a moment when Germany is also facing extreme political strain, with the far-right Eurosceptic party Alternative for Germany (AfD) rapidly rising in the polls.

France’s woes are already hurting the single currency; the euro is trading at its weakest to the US dollar for 17 months.

The political risk is more subtle than the old “Frexit” once threatened by Le Pen. Were she to become president, she would be unlikely to take France out of the euro or EU – both would be political and economic suicide.

Instead, she could simply unpick European integration from within, acting as a Trojan horse in Brussels. The EU could barely cope with Viktor Orbán. It will hardly manage a similarly destructive player, but this time in the traditional engine of European integration, and the second-largest economy in the entire bloc.

The quickening burn

France’s fiscal decline has been a slow process, but it is accelerating rapidly. Nobody can say where or when the tipping point lies, but what is certain is that the next president is sure to inherit it.

How he or she manages it will be a defining point not only for France, but for Europe and indeed liberal democracies all over the world.

France helped invent the vocabulary of liberal democracy; Rousseau, de Tocqueville and, later, Sartre and Foucault all shaped how the West understands self-government, democracy and its discontents.

Whoever occupies the Élysée in 2027 will again determine what that democracy looks like, and whether it can still discipline itself to pay its debts.

Markets have already begun casting their vote. DM