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Macron gambled and lost. Now bond markets will have their say

The election result puts France on a collision course with global capital markets and the EU

President Emmanuel Macron now faces a powerful left-wing bloc that wants to roll back his economic policies Reuters/Christian Hartmann
President Emmanuel Macron now faces a powerful left-wing bloc that wants to roll back his economic policies

A shock result in France’s parliamentary election has created a power vacuum in the country’s 577-seat National Assembly.

Marine Le Pen’s far-right National Rally was defeated in Sunday’s second round by the New Popular Front, a coalition of socialists, greens, communists and the far-left France Unbowed party of Jean-Luc Mélenchon. 

President Emmanuel Macron’s Renaissance party came second, but all three blocs were well short of the 289 assembly seats needed for a majority.

At the time of writing, Mélenchon and his allies are debating which of their number to put forward as prime minister – and are unlikely to accept Macron as the kingmaker in the Elysée Palace.

Mélenchon himself becoming PM would be a nightmare scenario for the EU and the financial markets.

It seems the Renaissance party will try to form a minority coalition government with partners who reject Macron’s centrist policies on pension and labour market reforms.

Gabriel Attal has tried to resign as prime minister while Mélenchon’s attacks on “parasitic capitalism” make it impossible to envisage him as a part of a coalition headed by a president who was once a Rothschild financier.

All this will be closely watched in the Gulf. France has extensive commercial and economic interests in the GCC, particularly in energy, banking, defence, aviation and technology.

French blue chips such as Total, BNP Paribas, Airbus and Dassault Systèmes have contributed to the GCC’s economic development since the dawn of the petrodollar era. Gulf investors are estimated to own €14 billion ($15.1 billion) in French assets.

France also plays a critical role in the diplomatic arena of its former colonies in Lebanon, Syria and the Maghreb.

This election undermines Macron, who has played a prominent role in boosting economic relations with the GCC and led peacemaking initiatives in the region. Continuing this work may not be possible while there is a hung parliament in Paris.

France cannot ignore the verdict of the markets, since no less than 50 percent of its government debt is held abroad

GCC financial flows into French assets could also fall if taxes and protectionism rise in a pivot to the left.

The new French government does appear likely to veer to the left and, unlike Sir Keir Starmer’s Labour Party in the UK, it seems doubtful that any government will have a stable majority to enact its legislative agenda.

Even though Le Pen has been defeated at the polls, France’s political instability, deteriorating public debt and rising budget deficits mean Paris is on a collision course with the global capital markets and the EU.

France cannot ignore the verdict of the markets, since no less than 50 percent of its government debt is held abroad.

It is rational to assume that the current 70-basis-point yield spread between French OATs (Obligations assimilables du Trésor) and German Bunds does not remotely reflect the political horse-trading risk that will arise as Macron tries to cobble together a viable, let alone stable, coalition government.

The New Popular Front’s fiscal policy platform is anathema to the bond market and is not in compliance with the EU’s excessive deficit procedures. If offshore funds sell French government debt in panic, the euro will face material downside risk against both sterling and the US dollar.

The financial markets have not yet grasped that the far left in France has an anti-capitalist and anti-free-market DNA as extreme as some of the ideas advocated by the far right.

The spread between French OAT and German Bund 10-year debt could well rise to 100 basis points and beyond.

Macron cannot forge a centre-left majority coalition that excludes Mélenchon’s extreme-left deputies. After all, the New Popular Front has won the most seats in parliament and will not accept a technocratic prime minister with a fiscal legislative agenda designed to reassure the EU and the markets.

Macron now faces a powerful left-wing bloc that wants to roll back his economic policies, raise the minimum wage and increase welfare spending. This coalition may erode France’s commitment to the Ukraine war and thus undermine the EU’s security. This is a formula for a rising risk premium in French asset markets.

France is the second largest economy in the EU and its political fragmentation is happening at the same time as Chancellor Olaf Scholz’s weak coalition governs Germany. 

If Donald Trump takes back the White House in November and then pressures Nato states to increase defence spending to 3 percent of GDP, a collapse in French-American relations is all too possible.

Macron’s gamble in calling a snap election has backfired with a vengeance.

His quest to prevent a far-right majority in parliament was ultimately successful, but France is doomed to a protracted period of unstable coalition that will exacerbate its public debt, budget deficit, economic growth and even external security challenges. 

Non, Dr Pangloss, this is not the best of all possible worlds.

Matein Khalid is the chief investment officer in the private office of Abdulla Saeed Al Naboodah and the CEO designate of a venture capital firm. He is also an adjunct professor of real estate investing and banking at the American University of Sharjah

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