Rude VC: Moody Blues in France

Nov 27, 2012
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It has been a demoralizing 10 days for France in its standing in the business world.

A week ago Friday, The Economist published a damning report on the parlous state of France’s economy with a cheeky cover story calling the country The Time-Bomb at the Heart of Europe.

Then on November 19th, Moody’s downgraded France’s credit rating from the prized AAA status to AA1. “France’s long-term economic growth outlook is negatively affected by multiple structural challenges, including its gradual, sustained loss of competitiveness and the long-standing rigidities of its labour, goods and service markets,” the agency stated.

I find it hard to cry foul about this credit downgrade. True, France does not inhabit the same economic terrain as Greece, Italy, nor Spain. And France’s government bond spreads reflect this. In other words, France can borrow at an interest rate that is about 0.8% higher than Germany (i.e. the “spread” = 0.8%, or 80 basis points). For Greece, Italy, and Spain, the spreads are 1500, 330, and 420, respectively.

But France is definitely exposed to these struggling economies. For example, French enterprises are particularly exposed to markets in Italy and Spain, and French banks were collectively the largest holders of Greek sovereign debt (which they have been quietly unwinding, by the way).

Combine this exposure to Europe’s peripheral economies with France’s home-grown problems – public spending at 57% of GDP, debt at 90% of GDP, unemployment > 10%, etc. – and a one-notch ratings downgrade is difficult to contest.

This is not to suggest that the credit ratings agencies are flawless. On the contrary, they screwed up royally in the period leading up to the sub-prime mortgage fiasco and ensuing global recession, turning an unacceptable blind eye to the financial shenanigans that triggered the crisis. Yet another reason to pay attention to the new initiative of creating an international non-profit credit rating agency that would be structured so that management and rating decisions are independent from its financial backers (read more about INCRA).

In any case, Moody’s is not alone in depriving France of the coveted AAA rating. Standard & Poor’s had issued a downgrade in January, and analysts expect the third ratings agency, Fitch, to follow suit early next year, reiterating many of the economic ailments afflicting France as cited in The Economist’s special report.

In denial ?

Parties seem to be talking past each other on this. The French government says it’s doing a lot, though what exactly this is apart from such encouraging talk about Gallois’ diagnostic still eludes me. The traditional media in France are not exactly echoing a sense of urgency either, with Le Nouvel Observateur and TF1 downplaying the incident, citing as evidence a negligeable reaction from the markets. But as Stéphane Deo of UBS points out, a spread of 80 basis points is 10 times higher than the spread before the crisis. Le Monde casts doubt on the credibility of the American agencies, and Journal du Net even features an OpEd piece from Camille Sari, President of the IEMEP (l’Institut Euro Maghrébin d’Etudes et de Prospectives) who questions how a foreign agency can accurately rate any country, especially those like France that shun “wild capitalism.”

Playing politics

Economic Minister Pierre Moscovici interpreted the downgrade as punishment for the situation the new government inherited (i.e. it’s Sarkozy’s fault). Of course, statements like this are playing politics, but they are encouraging. Why? Because only if our current politicians can find a face-saving way to make painful unpopular reforms will France rediscover the path of economic growth.