The runner-up, Mr. Hollande of the PS, won the French presidential elections on Sunday with a thin 52%-48% majority in his favour. Outgoing president Sarkozy recognized his defeat and promised to retreat from active politics.
Attention will now turn to the parliamentary elections that take place on June 10 and 17. Given the tightness of the victory, it is uncertain whether Mr. Hollande can secure a parliamentary majority. “Cohabition”, where the president governs with a non presidential majority occurred only once in the fifth republic (Chirac of the right as president and Jospin as PM of the left 1997-2002), and makes policymaking difficult. This increases risks in markets in the near term.
Indeed, it is unlikely that the new president will already unveil his policy programme for the next years ahead of the parliamentary elections. Of course, the election of the socialist Hollande, as such, increases risks for markets. A number of the proposals of his election platform are problematic for the strategy followed in Europe and especially for Germany, with whom France always formed the motor of the European integration. Of course, Mr. Hollande will soon bump into the realities of European politics and thus will deviate from his election platform. Though, as he presented himself clearly as the candidate for change, one shouldn’t expect him to forget his promises anytime soon and conduct a policy that would look very much to the policy of the outgoing president.
Mr. Hollande called for a renegotiation of the fiscal compact and for a more activist ECB. On these two points, it looks like the scope for change is very slim. Indeed, Germany already reminded the French that they want them to respect their agreement on the fiscal pact: “Pacta Sunt Servanda”, said FinMin Schaeuble.
A reform of the ECB looks also unacceptable. The ECB shall resist and so will the German government. Mr. Hollande likely wants the ECB to buy more government bonds or lend money to the EFSF or EIB (consider these institutions as banks), but that looks in the eyes of the ECB financing of governments, which is prohibited by the Maastricht Treaty. On economic policy, Mr. Hollande favours increased spending, higher taxes and delay the deficit reduction effort to some extent (balance in 2017). Mr. Hollande is certainly no irresponsible adventurer on fiscal policy, but his policies might accelerate the gradual erosion of the competitiveness position of France that occurred in the past decade. At some point, the competition gap with Germany would become too big to be managed and cause (more) big problems inside EMU that is build on the
understanding between those two countries. Centrifugal forces would put the EMU under still more stress.
In the past, French and German leaders have often had differences in economic and institutional views on Europe, but in the end they always reached an understanding and drove Europe towards more integration. One shouldn’t underestimate the possibilities that they again come together in the middle of the road. Take the lack of sufficient growth in a context of generalized (German favoured) austerity and fiscal consolidation. Mr. Hollande put the issue on the table and seemed to get support from other countries for a growth-oriented initiative.
Germany made an opening in his direction. So, there are possibilities for Mr. Hollande to get some changes to Europe’s crisis response. It is unclear though how far he wants to push some of his ideas and at which point the Germans may meet the French. It will take time though and the market tensions don’t give the EU leaders months to come up with a new workable policy to address the problems. It seems EU president Van Rompuy pleads for an extra Summit at the end of May.
Therefore, markets may become even more risk averse (also due to the postelection Greek situation, see above). So, core bonds should remain in favour, despite very low yields. Yield spreads of non-core bonds (including French) may widen, the euro should be under pressure and equities should have a difficult time too. A number of these reactions are already seen in Asian markets. However, the real test will be European trading today and in the next sessions.