The decision by French President Emmanuel Macron to call snap parliamentary elections sent ripples through financial markets this week, highlighting the precarious balance of political stability and economic confidence in the Eurozone. The widening OAT-Bund spread reflects the growing risk and uncertainty.
The move, announced after Macron’s coalition’s disappointing performance in the European parliamentary elections, has cast a spotlight on the growing influence of nationalist and populist parties across Europe. This political shift, coupled with France’s high public debt and ongoing social unrest, poses significant implications for the Eurozone’s economic landscape this summer.
At Pictet Wealth Management, chief investment officer César Pérez Ruiz, said the uncertainty surrounding France’s political future and its implications for the broader Eurozone could undermine investor confidence in the euro, exacerbating the economic challenges faced by the region.
“This decision is likely to negatively impact the European currency,” Ruiz told clients.
OAT-Bund spread widening
One of the most immediate financial indicators of the potential crisis is the widening of the yield difference between French and German government bonds, the OAT-Bund spread. The spread stood at 63 basis points on Wednesday, compared to just above 40 points at the end of May,
The yield on the 10-year OAT on Tuesday touched 3.3 percent, significantly outpacing the rise in German Bund yields. This divergence shows that investors are pricing in a higher premium for political risk in France.
Historically, the OAT-Bund spread has only exceeded 80 basis points during periods of severe economic stress, such as the sovereign debt crisis and the period when Marine Le Pen threatened to exit the euro area. While her party, the Rassemblement National (RN), has since moderated its stance on leaving the EU, its policy agenda—marked by fiscal laxity, anti-immigration rhetoric, and resistance to structural reforms—continues to unsettle investors.
Domestic agenda seen shifting
Azad Zangana, senior European economist and strategist at Schroders, noted that RN’s recent electoral gains could herald increased government borrowing, as the party’s economic policies include tax cuts and subsidies aimed at younger voters.
“Many are using the European Parliament election results as a sign that France may finally be ready for a right-wing nationalist government,” Zangana wrote in a note. ”If RN is successful in not only winning, but also forming a coalition majority government, then we can expect co-habitation with Macron remaining as president. This means that he will retain some control (via veto) over some national security issues, but ultimately, the domestic agenda will shift and be led by Jordan Bardella, president of RN.”
“Choice between order and chaos’
At Candriam, chief investment officer Nicolas Forest, underscored the precarious position of France’s public finances. France now has the third-highest debt-to-gdp ratio among the eurozone countries.
RN’s “political program, especially on pension and tax reforms, appears to lack fiscal rigor,” Forest wrote on Linkedin. ”Macron is emphasising the elections as a choice between order and chaos, a risky move in light of the country’s high public debt levels.”
Macron’s framing of the upcoming elections as a choice between order and chaos highlights the stakes involved. With France’s public debt levels already high, any fiscal indiscipline could exacerbate the country’s financial woes. The potential for a nationalist government to implement populist economic policies only adds to these concerns.
Meanwhile, the political unrest in France, epitomised by the Yellow Jackets protests, remains present, while the Paris Olympics, due to take place during the weeks following the elections. further complicate the picture. France, and the euro, are in for a hot summer.