The latest opinion polls show that François Hollande should win the French presidential election next week, with 54% of the vote going against Nicolas Sarkozy. Even if there is a debate, new scandals -- including a potential financing of Sarkozy's campaign by Muammar Gaddafi in 2007 -- appear set to destroy the last glimmer of hope for the UMP party.
It's now time to analyze a bit more the potential impact that Hollande's victory could have on financial markets. Have the markets already taken into consideration his victory? What will be the impact on the French economy and its role in Europe? Will new fiscal regulations impact the results of French international companies? Is the financial sector going to be the main target of the government? The clear lack of visibility in his program -- and even in his personality -- could worry the markets in the short term. On April 11, Sarkozy declared that Hollande's election would trigger a "confidence crisis in the markets" and "put France on its knees." Let's analyze the potential victory of Hollande next week.
A Crusade Against Finance
According to sociologist Emmanuel Todd, each political party needs to know who are its forces and who are its major enemies. In France, finance appeared to be the main enemy of the socialist party during the last few months (As per Holland: "Finance is my real opponent," a world "without name nor face" that "will never be elected but that governs.") And everything will be done to control and submit it.
The main measures in this field would be:
- European tax on all financial transactions.
- Separate investing and retail activities. Speculative financial products will be forbidden as well.
- No more stock-options and bonuses will be more regulated.
- 15% increase in taxes for banks.
- Creation of a European rating agency.
Source: Hollande's program.
Is It Realistic?
A tax on financial transactions (the Tobin Tax) was already proposed by Sarkozy last year but is far from being implemented in Europe. It's going to be very difficult for Hollande to convince the other European governments to implement it, and such a tax implemented only in France would be useless and trigger a leakage toward London or Switzerland. A European rating agency is going to be created anyway, and the initial structure announced recently that it found the necessary funding.
Separate investment and retail banks, as was done in the U.S. (via the Glass-Steagall Act), could be a bad idea in France due to the size of French investment banks. Indeed, their small size compared to U.S. giants could prevent them from doing a complete financing of French activities abroad.
Be that as it may, the banking sector should be hardly hit by such measures and its profitability will be less appealing for international investors. French banks including Société Générale (OTC:SCGLF), BNP Paribas (OTCPK:BNPQF), and Crédit Agricole (OTCPK:CRARF) should be watched carefully.
Economic Measures to Foster Small- and Medium-Sized Enterprises (SMEs), Innovation
An investment bank owned by the government will be created to invest in SMEs and in new sectors generating growth. New financial products will be set up to allow people to invest in SMEs, and taxes should be made easier for entrepreneurs.
Regions would be allowed to enter the capital of strategic companies, which is a bit scary knowing the current way to manage regions and the numerous wastes of money in France. Moreover, government-owned companies seemed to have underperformed over the last few years. Companies such as Air France (OTC:AFRAF), EDF (OTC:ECIFF), GDF (OTCPK:GDFZY) or France Télécom (OTCQB:FNCTF) look very cheap and could be impacted negatively by the election. Some investment opportunities could be upcoming.
Social and sustainable economy will be fostered through state financing, which is a good point taking into consideration the popularity and efficiency of such an economy in France right now. According to Hollande's program, a new taxation system should be set up as follows:
- 35% for big companies
- 30% for SMEs
- 15% for micro companies
Even though those measures remain very foggy, we can already assess that big international companies are going to be the main target of the new government. There could be some consequences for their profitability in the medium term, with more taxes and even with the government taking more stakes in strategic companies.
Will Hollande Set Up a Real Budgetary Discipline?
Hollande's plan is to focus on economic growth before budgetary restrictions and debt ceiling requirements. As a consequence, he should not balance the accounts until 2017 (compared with 2016 for Sarkozy). Too much austerity will not generate enough growth, and markets should back policies that focus on economic recovery. In fact, The Financial Times supports Hollande, even though the socialist candidate remains against the famous "golden rule." In the meantime, French and German rates keep distancing, especially after the first round of the elections. According to Exane BNP Paribas, "markets are sanctioning the weakness of Hollande's propositions to strengthen the economy."
Be that as it may, Hollande's potential victory will trigger more spending and the president will have to face European regulations and other members (mainly Republicans). Moreover, the socialist candidate backs the creation of euro bonds and an ECB that's less conservative and more focused on economic growth. The next elections in Germany will take place in September 2013 and will be a determining factor.
The Market's Battle Plan
A document called "François Hollande And France's Labour-Market Rigidity: The Market Will Rock Both" was recently published by Crédit Agricole Chevreux, the main European brokerage company. According to the report, Hollande will have to make a choice between more flexibility in the labor market and measures protecting the people. In fact, the document makes it very clear that he will not respect his promises but accept Reagan-like reforms under the impulsion of financial markets to liberalize the French model.
Indeed, Hollande will have to choose between Europe and the French model. Europe means more liberalization and flexibility, more budgetary constraints, etc. For instance, in 1981 the socialist Francois Mitterand won with a very socialist program but had to accept Reagan-like policies after two years to remain in the European project. As a consequence, Hollande is stuck between the markets that expect budgetary and flexibility reforms and its electors.
The question now is: Does he fear the people enough to go against the markets and Europe? Could he find allies in Europe to do so? We will need more elements about his personality to asses his determination and resistance, a key factor before the second round next Sunday.
According to Crédit Agricole Chevreux, he will simply trick the people and become the French George Papandreou. On the other hand, economist Jacques Sapir said during an interview that he would last two years if he fights the people and liberalizes. The growing party called Front de Gauche could be a determining factor in upcoming years.
The markets seem to have already taken into consideration Hollande's victory, but should watch carefully the implementation of its first measures. We should watch the reaction of other pro-Sarkozy countries like Germany and the ECB in order to evaluate any economic consequences of the election and see if Hollande will have the needed space to take action. However, some tensions in the markets should be expected in the short term, and the spread between France and Germany is likely to increase over the next few months.
Be that as it may, the French mid-cap market should benefit from lower taxes and could provide investment opportunities in the medium term. Government-owned companies could also provide investment opportunities in the medium term.