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Friday, 25 July 2014

Friendly scolding

Moody's downgrade is good news for France

François Hollande has received a little help from an unlikely friend. Moody’s, the ratings agency, has stripped France of its prized AAA status, following rival S&P’s similar move in January. Markets yawned at the long-expected news, with yields on French 10-year bonds up a meagre four basis points. The decision comes with threats of further downgrades, so it puts pressure on France to plough ahead with its reform plans. But the French president should welcome the announcement, which will help him convince his compatriots that more changes are needed, and that time is short.

As it happens, Hollande’s socialist government didn’t greet Moody’s move with the fury shown by his predecessor Nicolas Sarkozy at the S&P decision. The team currently in power couldn’t have been surprised at the rationale: the lack of economic competitiveness and rigidities of the labour market are long-standing problems that the government says it wants to address. Once again a ratings agency shows it has little to add when rating sovereigns, since it uses publicly-available numbers to conclude what is obvious to everyone.

Hollande may have - belatedly - made the right diagnosis of France’s economic problems. But he hasn’t dispelled all doubt on two questions. The first is on timing. He still behaves as if he could go at his own pace, as if he is refusing to admit that the current crisis dictates the rhythm of change. The second question is whether he can resist the political headwinds that his reforms, if serious, will create. The French people remain unconvinced of the need for major changes, and public-sector unions can be trusted to fight attempts to reform labour laws, or to shrink the government’s size.

That’s where Moody’s can help. Hollande can use the warning as an educational tool, even though France may be spared a steep rise in its funding costs. He must explain that the decline in French 10-year bond yields this year - they have come down from 3.1 to 2.1 percent since the S&P downgrade - is not a sign that ratings don’t matter. And he must take the market’s benevolence as an opportunity to act, not an excuse to delay.

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Moody’s cut France to Aa1 with a negative outlook on Nov. 19, citing structural economic challenges and a sustained loss of competitiveness in Europe’s second-largest economy.

The credit ratings agency’s lead France analyst also told Reuters that it would downgrade the country’s creditworthiness further if the Socialist government failed to implement announced reforms.

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