Anxiety despite calming French government bond interest rates... Reducing the fiscal deficit is key

Public debt 119% of GDP… The interest rate gap with Germany is the highest since 2011. Government bond issuance interest rates rise and bid rates fall... Pay attention to whether the austerity plan is implemented

Although French government bond yields have fallen along with the strength of the European bond market, concerns about fiscal soundness continue. As debt increases and the cost of issuing government bonds rises, it has become important to determine whether the government's proposed fiscal deficit reduction plan will be implemented.

On the 6th (local time), the interest rate on French 10-year government bonds was traded at 4.72%, down 14bp (1bp = 0.01% point) from the previous session. While the European government bond market showed strength overall, French government bonds also rose. A fall in government bond interest rates means a rise in prices.

Marine Le Pen of the far-right party National Coalition presented a plan to achieve net fiscal savings of 140 billion euros by 2032 compared to 2026 if she wins next year's presidential election. Reuters reported the market's assessment that this pledge also partially contributed to the decline in interest rates.

Widening interest rate gap with Germany, warning for French finances

It is difficult to judge that financial instability has been resolved with just a one-day interest rate drop. The market's previous caution was revealed in the interest rate difference with German government bonds.

According to EFG International's 5-day analysis data, the gap between France and Germany's 10-year government bond interest rates on the 2nd exceeded 150bp at one point, widening to the highest level since the end of 2011. The French 10-year bond interest rate is also close to 5%, the highest level since 2002.

This means that even if government bonds are issued in the same euro, investors are demanding higher interest rates when lending money to France. EFG pointed to concerns about the sustainability of France's public finances and political uncertainty as the background for the widening interest rate gap.

From increased debt to rising borrowing costs

Public debt as of the end of the second quarter of this year, announced by the French National Statistics Institute (INSEE), was 3.5955 trillion euros. It increased by 59.6 billion euros from the previous quarter, and the debt-to-gross domestic product (GDP) ratio rose from 117.5% to 119.0%.

The increased market interest rate was also reflected in the actual cost of issuing government bonds. In the French Treasury's (AFT) auction held on October 1, the average winning interest rate for government bonds maturing in November 2036 was 4.93%. It was 0.70 percentage points higher than the previous bid for the same item, 4.23% on September 3.

The impact of rising interest rates gradually accumulates in the process of reissuing new borrowings and repaying maturing debt. If funds borrowed at low interest rates are replaced with more expensive funds, interest expenditures will increase, making it difficult to reduce the fiscal deficit and the burden of additional borrowing may also increase.

Changes also appeared in bidding demand. The bid rate, which is the bid amount divided by the successful bid amount, decreased from 2.28 times to 2.00 times during the same period. Although the government continued to issue government bonds, bid demand relative to the successful bid size decreased compared to the previous bid.

Debt increases despite deficit reduction plan... Political consensus is key

In the 2027 budget plan released on the 1st, the French government set a goal of lowering the fiscal deficit ratio expected to be 5.4% of GDP this year to 5.0% next year. To this end, we will pursue fiscal improvements worth a total of 54 billion euros, including spending restraints and tax adjustments. Among these, the new measures are worth 43 billion euros.

The government predicted that even if these measures are taken into account, the public debt-to-GDP ratio will reach 121.7% in 2027. Even if the fiscal deficit is reduced, the debt ratio is expected to continue to rise.

The political conditions for implementing the policy are also uncertain. The French government is having difficulty reaching agreement on ways to reduce the fiscal deficit in a divided parliament ahead of the 2027 presidential election. The government's budget plan must overcome political opposition, and the austerity pledge proposed by Le Pen must also be backed by actual implementation plans.

What is important to watch in the future is how well the deficit reduction goal and measures to achieve it are maintained during the budget deliberation process. In subsequent government bond bidding, it must also be examined whether the funding interest rate and bidding demand are stable.