Fitch Ratings – Frankfurt am Main – 27 Oct 2023: Fitch Ratings has affirmed France’s Long-Term Foreign-Currency Issuer Default Rating (IDR) at ‘AA-‘ with a Stable Outlook.
A full list of rating actions is at the end of this rating action commentary.
KEY RATING DRIVERS
Ratings Affirmed; Stable Outlook: France’s ‘AA-‘ ratings are underpinned by a large, wealthy and diversified economy, strong and effective institutions and a record of macro-financial stability. Public finances, and in particular the high level of government debt, are a rating weakness. The impact of the pandemic and energy crisis left public debt substantially higher than in previous years. This was in the context of already elevated debt levels compared with rating peers and limited progress in fiscal consolidation in the years preceding the pandemic.
Growth Slows in 2023: Fitch predicts that the French economy will expand by 0.8% this year, slightly exceeding our eurozone forecast of 0.6%. The French economy has performed better since the start of the energy crisis relative to economies like Germany, benefiting from lower reliance on energy-intensive sectors and lower energy prices. The transmission of the interest rate shock to households appears more muted in France than elsewhere given the prevalence of fixed-rate mortgages.
The recovery in 2024 will be weaker than previously expected, with real GDP growth reaching just 1.1% (versus 1.3% forecast previously) due to weaker consumption and slightly weaker net trade. Growth will rise to 1.7% in 2025 as private consumption rebounds.
Higher Potential Growth: We have slightly raised our medium-term GDP projections for France by 0.1pp to 1.2% since the last review amid an improved labour force participation outlook, helped by the pension and labour market reforms. We now project that the annual rate of growth will average 1.4% over 2023 through 2027, by when the output gap will be closed.
Marginal Increase in Unemployment: The French labour market has strengthened significantly in recent years, supported by past reforms, including apprenticeship programmes and reform of the unemployment benefit scheme. However, there are early signs of cooling, with the rate of private-sector job creation in 2Q23 falling to its slowest rate since 4Q20. The unemployment rate rose to 7.3% in August, up from 7.1% in 1Q23. We expect the rate to remain broadly stable around the current level. The 2023 pension reform and ongoing reform of the unemployment benefit scheme could help support the labour market in the medium to long term.
Elevated but Falling Inflation: Headline inflation has fallen from its peak level at 7.3% in February to 5% in September, despite a rise in petrol prices and a 10% rise in regulated electricity prices in August. The French government is continuing to intervene in the energy markets and has extended the electricity price cap until the beginning of 2025. Fitch forecasts that inflation will average 5.6% in 2023, before falling to 2.9% in 2024.
Limited Fiscal Consolidation: The 2024 draft budget and multi-year fiscal plan envisage only a limited reduction of the fiscal deficit, from 4.9% in 2023 to 4.4% in 2024. We forecast the budget deficit to rise slightly to 4.9% in 2023, and then decline to 4.6% of GDP in 2024 and narrow to 4.2% in 2025, well above the ‘AA’ medians of 2.5% and 1.5%, respectively. Our higher deficit forecast reflects our lower growth forecast and the risk that unspecified savings might not be realised.
The government is trying to improve public expenditure control through annual spending reviews, targeting EUR12 billion in annual savings (0.4% of GDP, non-cumulative), starting in 2025. In our view, it remains unclear how effective these will be as previous reviews have not achieved targeted savings. Instead, there may be pressures for higher spending on energy subsidies and health care.
Public Debt Trajectory: We forecast that public debt will temporarily decline to 110.4% of GDP in 2023 and 2024 from 111.8% in 2022, supported by sound nominal GDP growth and lower fiscal deficits. General government debt will gradually increase again, reaching 111.9% of GDP by end-2027, around 14.5pp above the pre-pandemic level and almost 4pp higher than the government’s latest projections.
Resilient Banking Sector: We see limited risks to financial stability from higher interest rates and a cooling down in real estate markets. French banks have large commercial real estate exposures by European standards, which could be affected by rising defaults and falling prices. However, exposures are generally well diversified by segment and country, and were largely originated at conservative loan-to-value levels. Bank balance sheets remain sound, including stable capitalisation and low non-performing loans, while the current pressure on interest margins should ease as the repricing of new home loans continues and funding costs stabilise.
ESG – Governance: France has an ESG Relevance Score (RS) of ‘5[+]’ for both Political Stability and Rights and for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption. Theses scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in our proprietary Sovereign Rating Model. France has a high WBGI percentile ranking at 80.2 reflecting its long track record of stable and peaceful political transitions, well established rights for participation in the political process, strong institutional capacity, effective rule of law and a low level of corruption.
RATING SENSITIVITIES
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
– Macro: Materially lower economic growth prospects and weakened competitiveness.
– Public Finances: A large and persistent increase in government indebtedness resulting from higher than expected public deficits and an increase in fiscal rigidities.
Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
– Public Finances: General government debt/GDP moving to a firm downward path over the medium to long term to significantly lower levels, for example, due to sustained fiscal consolidation.
– Macro: Evidence of improved medium-term growth prospects, particularly if underpinned by effective structural reforms and competitiveness gains.
SOVEREIGN RATING MODEL (SRM) AND QUALITATIVE OVERLAY (QO)
Fitch’s proprietary SRM assigns France a score equivalent to a rating of ‘AA-‘ on the Long-Term Foreign-Currency (LT FC) IDR scale.
Fitch’s sovereign rating committee adjusted the output from the SRM to arrive at the final LT FC IDR by applying its QO, relative to SRM data and output, as follows:
– Macro: +1 notch to reflect the deterioration of the GDP volatility variable due to the pandemic was caused by a very substantial and unprecedented exogenous shock that hit the vast majority of sovereigns, and Fitch believes that France is absorbing the shock without lasting effects on its long-term macroeconomic stability, and that the shock would otherwise add excess volatility to the rating.
– Public Finances: -1 notch to reflect the very high level of, and persistent rise in, government debt/GDP, which is far above the ‘AA’ median, and the difficult political environment for fiscal consolidation, which combined create vulnerabilities relative to sovereigns in the ‘AA’ category. Political and social conditions make expenditure-led consolidation unlikely while revenue/GDP is already exceptionally high.
Fitch’s SRM is the agency’s proprietary multiple regression rating model that employs 18 variables based on three-year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch’s QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.
COUNTRY CEILING
The Country Ceiling for France is ‘AAA’, 3 notches above the LT FC IDR. This reflects very strong constraints and incentives, relative to the IDR, against capital or exchange controls being imposed that would prevent or significantly impede the private sector from converting local currency into foreign currency and transferring the proceeds to non-resident creditors to service debt payments.
Fitch’s Country Ceiling Model produced a starting point uplift of +3 notches above the IDR. Fitch’s rating committee did not apply a qualitative adjustment to the model result.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG CONSIDERATIONS
France has an ESG Relevance Score of ‘5[+]’ for Political Stability and Rights as World Bank Governance Indicators have the highest weight in Fitch’s SRM and are therefore highly relevant to the rating and a key rating driver with a high weight. As France has a percentile rank above 50 for the respective Governance Indicator, this has a positive impact on the credit profile.
France has an ESG Relevance Score of ‘5[+]’ for Rule of Law, Institutional & Regulatory Quality and Control of Corruption as World Bank Governance Indicators have the highest weight in Fitch’s SRM and are therefore highly relevant to the rating and are a key rating driver with a high weight. As France has a percentile rank above 50 for the respective Governance Indicators, this has a positive impact on the credit profile.
France has an ESG Relevance Score of ‘4[+]’for Human Rights and Political Freedoms as the Voice and Accountability pillar of the World Bank Governance Indicators is relevant to the rating and a rating driver. As France has a percentile rank above 50 for the respective Governance Indicator, this has a positive impact on the credit profile.
France has an ESG Relevance Score of ‘4[+]’ for Creditor Rights as willingness to service and repay debt is relevant to the rating and is a rating driver for France, as for all sovereigns. As France has a track record of 20+ years without a restructuring of public debt and captured in our SRM variable, this has a positive impact on the credit profile.
The highest level of ESG credit relevance is a score of ‘3’, unless otherwise disclosed in this section. A score of ‘3’ means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch’s ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch’s ESG Relevance Scores, visit www.fitchratings.com/topics/esg/products#esg-relevance-scores.
