Yesterday was the first round of presidential elections in France, and for incumbent Nicolas Sarkozy, it was a rough day. His rival Francois Hollande took 28.6% of the vote vs. Sarkozy's 27.1%, while far right candidate Marine Le Pen beat all predictions by amassing 18.1%. Turnout was high, with about 80% of registered voters casting their votes. A consensus is now emerging in France that Hollande will emerge as president. Even Las Vegas is weighing in, giving Sarkozy a 15% chance of pulling a rabbit out of the hat.
Since the two front runners were in a statistical dead heat, much will depend on the behavior of the supporters of the eight runners-up. Although Le Pen is far right and would normally tilt toward the more centrist Sarkozy, much of Le Pen's support has come in the form of a protest vote that may seek out a status quo alternative. With less than two weeks to go before the run-off election on May 6, there is little time for Sarkozy to appeal to the 45% that did not vote for one of the finalists.
Since the chances are high that Hollande will be the next French president, it is time well spent to study his platform. Here are some of the main points:
- Hire 60,000 new teachers
- Balance budget by 2017
- Tax income above EUR 1 million at 75%
- Reduce usage of nuclear power
- Reduce consumer utility bills
- Lower retirement to 60 for those who have worked 41 years or more
- Reduce payroll tax
- Renegotiate European treaty
- Separate commercial and investment banking
- Encourage ECB to lend money directly to governments
As we see from the list, there is only one proposal that will raise revenues for the state, namely the tax on income above EUR 1 million. However, since very few French fit that description, the amount of revenues to be generated is rather modest.
At the same time, many points of the platform will lead to greater government spending, some of them significantly. Although 60,000 teachers doesn't seem like a particularly large number, given France's population of 65 million, this amounts to nearly one new teacher per thousand citizens. Similarly, although lowering the retirement age to 60 for those who have already worked 41 years is not a large adjustment, from an actuarial standpoint those contributions will add to the strain of the French social security system. Reducing the cost of energy will also require government-funded transfer payments, particularly in light of less nuclear power.
It will be a challenge for Mr. Hollande to balance the budget in five years as he intends, but if he follows the path of previous President Francois Mitterrand, he may choose a program of fiscal austerity. Mitterrand came to power in 1981 on a platform similar to Hollande's, but after two years reversed course in what was known as "tournant de la rigueur" (turn to austerity). Such a reversal in the near future, if it comes, would add to the burden of the eurozone as it struggles to maintain growth.
The economic figures released this morning in Europe are underscoring the fragility of the European economy, with French and German PMIs both coming in far below expectations, and Italy's consumer confidence hitting lows not seen since the data series began in the 1990s. Hollande's platform may have a stimulative effect at first as consumers will have more discretionary income, and as unemployment drops. This could lead to a modest outperformance of French stocks versus Germany and other eurozone countries, leading to a partial reversal of the 12% underperformance of France versus Germany so far this year.
In the longer term, however, the French move to a balanced budget will require a new round of austerity and more modest prospects for future growth. Since markets tend to be forward looking, the bounce from the prospect of a short-term spending increase, if seen in the context of a need for belt-tightening in the medium term, may be modest and short-lived. Investors should not hold out hope that Hollande's new policies will lead to a sustainable rally, nor would his victory represent a means of overcoming the malaise of the region.
Additional disclosure: I am short S&P, Nasdaq, and Dax futures.