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      Scope affirms France’s AA long-term credit ratings; revises Outlook to Negative from Stable
      FRIDAY, 26/05/2023 - Scope Ratings GmbH
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      Scope affirms France’s AA long-term credit ratings; revises Outlook to Negative from Stable

      Weakening public finances and implementation risks to the reform agenda drive the Outlook change. A large, diversified, and resilient economy; core euro area member status; a favourable debt profile; and excellent capital market access are strengths.

      For the updated report accompanying this review, click here.

      Rating action

      Scope Ratings GmbH (Scope) has today affirmed France’s long-term issuer and senior unsecured debt ratings at AA in local and foreign currency and revised the Outlooks to Negative from Stable. Short-term issuer ratings have been affirmed at S-1+ in both local and foreign currency with Stable Outlooks.

      Summary and Outlook

      The revision of the Outlook to Negative from Stable is underpinned by the following credit rating drivers:

      1. Weakening public finances reflected in high expenditure pressures, amid fiscal consolidation efforts primarily based on efficiency spending, a rising interest burden, and high public debt;
      1. Implementation risks to the government’s reform agenda, amid a lack of majority in parliament and socio-political unrest, potentially exacerbating challenges related to budgetary consolidation and medium-term growth prospects.

      The affirmation of France’s AA credit ratings is supported by its large and diversified economy driven by high value-added activities; its core euro area membership reflected in its role as EU founding member and leading guarantor of the European institutional framework; its favourable debt profile and excellent capital market access; and its sound and resilient banking sector.

      The Negative Outlook reflects Scope’s opinion that risks to the ratings are skewed to the downside over the next 12-18 months.

      The ratings could be downgraded if, individually or collectively: i) the public debt-to-GDP ratio steadily increased due, for example, to the failure to deliver adequate fiscal consolidation; and/or ii) the growth outlook significantly deteriorated compared to current forecasts due, for example, to a weaker reform momentum and/or an economic shock.

      Conversely, the Outlooks could be revised to Stable if, individually or collectively: i) sustained budgetary consolidation exceeded expectations and the trajectory of public debt-to-GDP stabilised; and/or ii) the growth outlook improved significantly due, for example, to a stronger-than-expected reform momentum.

      Rating rationale

      The first driver of the Outlook change relates to weakening public finances reflected in high expenditure pressures, amid fiscal consolidation efforts primarily based on efficiency spending. Moreover, a rising interest burden, high public debt, and uneven track record of fiscal consolidation add to the challenges to the fiscal outlook.  

      High pressures on France’s public expenditure are at risk of hindering the government’s medium-term fiscal consolidation plan. Scope forecasts an average fiscal deficit of 4.1% of GDP over 2023-2028, compared to 3.1% of GDP over 2015-2019. The fiscal deficit is expected to remain higher than 3.0% in the medium term, in contrast to the government’s target of 2.7% of GDP in 20271. Pressures on public expenditure are likely to persist as a more challenging economic and socio-political environment complicates the withdrawal of countercyclical measures introduced as a response to the Covid-19 pandemic (EUR 151bn, or 5.7% of GDP) and energy crisis (EUR 32bn on net basis in 2022 or 1.2% of GDP; EUR 31bn in 2023), reinforcing already strong demand for public services and social safety nets, most of which are indexed on inflation. While Scope acknowledges the government's commitment to containing expenditure growth, notably through a recently announced 1% additional freeze of the budget for the current year, a gradual phasing out of the electricity price cap over the next two years illustrates the risk of a longer-than-expected accommodative fiscal stance. Significant investment in the climate transition, armed forces, and industry, although partly funded through the European Recovery and Resilience Facility (EUR 39.4bn in grants), further constrains the government’s ability to meet its targets of a reduction of expenditure from 57.5% of GDP in 2022 to 53.5% of GDP in 2027. Moreover, revenue-side consolidation is hampered by the government’s commitment to lowering the tax burden from 45.3% of GDP in 2022 to 44.4% in 2027, which accounts for a EUR 2bn tax cut supporting middle-income households.

      In addition, durably higher interest rates amid high public debt constitute a risk for France’s medium-term fiscal trajectory. Although the recent rise in the interest burden relates to inflation-linked bonds (12% of total debt), partially indexed to euro area inflation (9.2% in 2022)2, higher funding rates, moving from the lower bound of 0% during the Covid-19 pandemic to around 3% for 10-year securities, will have a long-lasting impact on the fiscal deficit as public debt stock has increased significantly in recent years. Scope expects the net interest burden to rise from 3.4% of general government revenue (or 1.8% of GDP) in 2022 to around 5.0% of revenue (2.7% of GDP) in 2028, as higher interest rates compound the rise in public debt to 111.6% of GDP in 2022, from 97.0% in 2019. Moreover, Scope notes that the government forecasts interest payments at EUR 70bn by 2027, up from EUR 50bn in 2022.

      France’s debt-to-GDP ratio is at risk of remaining higher than before Covid-19 and further diverging from the euro area average. The significant rise in public debt in the wake of external shocks and high pressure on public expenditure may hinder the government’s capacity to materially reverse past weakening in public finances. Scope foresees a moderate rise in debt-to-GDP, from 111.6% in 2022 to around 114% in 2028. This upward trend, which contrasts with the government’s objective of reducing public debt to 109.6% of GDP in 2023 and 108.3% of GDP in 20271, reflects expectations of large, although declining, primary fiscal deficits; a gradual rise in interest payments, expected to represent the largest expenditure item by 2027; and moderate real growth rates (expected to average 1.4% over 2023-2028, in line with GDP growth potential). The refinancing of public debt (13% of total after one year; 45% after five) at higher interest rates increase the risk of consistently high gross financing needs. In the longer run, climate transition is at risk of adding further pressure on public debt3.

      Finally, France has an uneven track record in budgetary consolidation as it has run primary deficits since the early 2000s and its fiscal trajectory has frequently fallen short of multi-year objectives. The government objectives rely on reasonably optimistic assumptions, such as average GDP growth of 1.7% between 2025 and 2027, above potential of 1.35%, a discrepancy that the French Fiscal Council has highlighted4. Moreover, the delay in the adoption of the ‘Loi de programmation des finances publiques pour les années 2023 à 2027’ by the parliament, now scheduled to be examined in July 2023 and a requirement to unlock funds allocated under the Recovery and Resilience Facility, illustrates risks surrounding fiscal targets. This also raises concerns around the government’s ability to comply with the reintroduction of the European fiscal framework in 2024, in which France has performed among the worst in the EU since the late 1990s5. Contingent liabilities constitute an additional risk for the fiscal outlook, as reflected by the government taking over about EUR 10bn of debt issued by the SNCF6 in 2022 and the ongoing nationalisation of EDF.

      The second driver of the Outlook change reflects implementation risks to the government’s reform agenda, amid a lack of majority in parliament and socio-political unrest, potentially exacerbating challenges related to budgetary consolidation and medium-term growth prospects.

      Long-standing fragmentation and political polarisation complicate policy setting, with the potential rise of populist political movements. The social tensions that followed the adoption of the pension reform reflect opposition to the government’s reform agenda. The government passed the pension reform without a parliamentary vote, leading to a deterioration of its relationship with trade unions, which could weigh on the government’s ability to build consensus around additional reforms. The prospects of President Macron regaining an absolute majority via early legislative elections have also lowered as opinion polls indicate a weakening of the presidential party. Overall, socio-political tensions, reflected in numerous though unsuccessful no-confidence votes, increase the risk that President Macron’s economic, social, and climate reform agenda will be postponed or watered down until the end of his term in 2027, which limits the prospects of structural improvement to the budgetary and growth outlooks.

      France’s AA credit ratings also reflect multiple credit strengths.

      France’s credit ratings are underpinned by a large and diversified economy driven by high value-added activities and exhibiting the second-largest nominal GDP in the euro area (EUR 2,600 bn in 2022). Despite a dependence on European trade and integration in regional value chains, the French economy is resilient to external shocks thanks to its high wealth levels (GDP per capita of EUR 36,700) and elevated degree of diversification.

      France’s large economic size and high wealth are credit strengths that have been reinforced by supply-side reforms introduced since 2017, among which is the reduction of the corporate tax, which has contributed to enhancing the business environment and attracting foreign investors. Scope forecasts real GDP growth will drop from 2.6% in 2022 to 0.7% in 2023 (1.0% according to the government1) before rising moderately to 1.4% in 2024 (1.6%). GDP growth was positive in Q1 2023 (0.2% QoQ after 0.0% in Q4 2022), although household consumption remains sluggish as nominal wage growth is outpaced by inflation (5.9% YoY in April), primarily on food and energy. Domestic investment is also expected to remain subdued given higher interest rates and persistent domestic and international uncertainties, despite stimuli via the France Relance and France 2030 plans. Reforms of the unemployment benefit and of the pension system are expected to support the labour market (the government estimates an increase of up to 150 000 jobs from the unemployment reform, and 200 000 by 2027 from the pension reform). A currently low unemployment rate (7.1% in Q1 2023, its lowest since 2008) reflects the favourable effects of the economic rebound after the Covid-19 pandemic and earlier reforms (including revamps of the apprenticeship and unemployment benefit system) on the domestic labour market.

      In addition, France’s lower dependence on natural gas imports and countercyclical measures introduced to shield households and corporates from high energy prices have contained inflation to 5.2% in 2022 (core: 3.9%), one of the lowest rates in the euro area. Scope expects inflation to decline to 5.3% in 2023 and to 2.7% in 2024 due to favourable base effects, the ECB’s monetary policy tightening, lower commodity prices, and the easing of supply chain bottlenecks. Nonetheless, the phasing out of costly fiscal measures, with gas price increases capped at 4% in 2022 and 15% in 2023 on average, could raise inflation amid higher wage growth (4.4% in 2023, 2.8% in 2022) and a rise in the minimum wage (6.6% between January 2022 and January 2023).

      France’s credit ratings are also supported by its core euro area membership reflected in its role as EU founding member and leading guarantor of the European institutional framework. Although geopolitical uncertainties have raised the risk of tensions with European allies, Scope expects France to retain a leading role in European and international negotiations, including as a core member of NATO, having one of the strongest military forces in the European Union, and as a permanent member of the United Nations Security Council. France’s core euro area member status and leading role in European institutions is an important credit strength, including during negotiations around the EU fiscal framework and for the inclusion of nuclear within the EU Green Taxonomy. Finally, France benefits from strong and effective institutions, as well as a highly credible and effective monetary policy framework through the ECB. These credit strengths anchor France’s funding flexibility and debt affordability, as its leadership role in Europe is intertwined with the country’s safe asset and benchmark issuer status.

      France’s credit ratings are furthermore underpinned by a favourable debt profile and excellent capital market access. The issuance of medium- and long-term debt (net of buybacks) has been revised to EUR 270bn in 2023 (EUR 260bn in 2022), with one-third (EUR 90n) of the yearly programme executed by Q1 2023. As for rating peers, France’s nominal interest rates have risen markedly, in line with the ECB monetary policy, with the 10-year yields exceeding 3% for the first time since 2012. France’s excellent market access is supported by its benchmark issuer status, strong public financial management and innovation capacity, as reflected in 2022 by the issuance of an inflation-linked green OAT€i. A large share of fixed-rate securities (88% of the total), long average maturity (8.4 years), significant Eurosystem holdings of government debt securities (22%), and a gradual phasing out of the Pandemic Emergency Purchase Programme mitigate liquidity risk. According to the Banque de France, around 35% of central government bonds and bills are free floating7.

      Lastly, France’s credit ratings are anchored by a sound and resilient banking sector. After a strong performance in 2022, French banks are expected to achieve satisfactory results in 2023 despite headwinds: i) banks’ revenue are rising more slowly than for banks within other European countries while the return on regulated savings such as for Livret A (EUR 343bn, 19% of total deposits) is inflation-linked; and ii) asset quality is weakening, although this will be contained by guarantee mechanism such as the ‘Prêts Garantis par l’Etat’, covering more than 800 000 loans of an aggregated amount of EUR 143.3bn as of end-2022. Bankruptcies have continued to rise since Q4 2021 but are still below the pre-Covid-19 average. The household savings ratio stood at 16.3% in Q3 2022, against 14.7% in Q4 2019. The main risks to financial stability relate to: i) high debt of non-financial corporates (162% of GDP in Q4 2022) and households (66%) relative to the euro area (105% and 58%); and ii) a correction of the housing market, although risks are mitigated by prudential measures with limits on loan maturities and debt-service-to-income ratio.

      Core variable scorecard (CVS) and qualitative scorecard

      Scope’s CVS, which is based on the relative rankings of key sovereign credit fundamentals, provides a first indicative rating, which was approved by the rating committee, of ‘a’ for France. France receives a one-notch uplift to this indicative rating via the reserve currency adjustment under the sovereign methodology. As such, the ‘a+’ final indicative rating can be adjusted under the qualitative scorecard by up to three notches depending on relative qualitative credit strengths or weaknesses against a peer group of countries.

      France’s relative credit strengths are: i) macro-economic stability and sustainability; ii) debt profile and market access; iii) resilience to short-term external shocks; iv) banking sector performance; and v) environmental factors. Scope did not identify any credit weaknesses relative to peers.

      The qualitative scorecard generates a two-notch positive adjustment and indicates AA long-term ratings for France.

      A rating committee has discussed and confirmed these results.

      Factoring of environmental, social and governance factors (ESG)

      Scope explicitly factors in ESG issues into its rating process via the Sovereign Rating Methodology’s standalone ESG sovereign risk pillar, with a 25% weighting under the quantitative model (CVS) and 20% weighting in the methodology’s qualitative overlay (qualitative scorecard).

      With respect to environmental factors, the government is expected to unveil an action plan to limit greenhouse-gas emissions, as France may fall short of Paris Climate Agreement objectives8. The government plans to scale up investment in renewable energy and revamp France’s nuclear industry, including nationalisation of utility provider EDF. France has lower natural disaster risks and stronger biocapacity than peer countries and the government is proactive in its environmental policy making, especially to report on the environmental impact of budgetary spending and tax expenditures. This anchors a ‘strong’ qualitative assessment on ‘environmental factors’.

      In terms of social factors, the CVS score for France is constrained by an ageing population, a key challenge given an already large welfare state. Despite introduction of the pension reform effective from September 2023 (with benefits of around EUR 8bn on a net basis by 2027 according to the government3), the steady increase of the old-age-dependency ratio over the long term is a risk for public finances, although demographic trends compare favourably against those of most of European peers. Labour force participation is lower than that of most rating peers, reflecting persistent bottlenecks, including a complex pension system and insufficient re-training measures. Furthermore, France has lower income inequality than most peers thanks to the large welfare state underpinned by redistributive economic policies. This supports a ‘neutral’ qualitative assessment on ‘social factors’.

      Under governance-related factors in the CVS, France’s scores are in line with those of credit rating peers, as assessed by the World Bank’s Worldwide Governance Indicators. France has strong and effective institutions. The government overcame multiple no-confidence votes prompted by members of parliament, increasing the risk of political instability. This drives a ‘neutral’ qualitative assessment on ‘governance factors’.

      Rating Committee
      The main points discussed by the rating committee were: i) economic developments; ii) fiscal policies and prospects; iii) monetary policy stance of the European Central Bank; iv) financial stability risks; and v) peers comparison.

      Rating driver references
      1. Ministère de l’Economie et des Finances, Programme de Stabilité 2023-2027        
      2. Cour des Comptes, Rapport public annuel 2023             
      3. France Stratégie, Les incidences économiques de l’action pour le climat             
      4. Haut Conseil des Finances Publiques, Avis relatif aux prévisions macroéconomiques associées au PSTAB 2023-27               
      5. Secretariat of the European Fiscal Board, Compliance tracker                   
      6. Cour des Comptes, Le budget de l’Etat en 2022               
      7. Banque de France, French sovereign debt liquidity                
      8. Assemblée Nationale, Mission "flash" sur le suivi des engagements de la France dans les COP         

      Methodology
      The methodology used for these Credit Ratings and Outlooks, (Sovereign Rating Methodology, 27 September 2022), is available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
      The model used for these Credit Ratings and Outlooks is (Sovereign CVS model version 2.1), available in Scope Ratings’ list of models, published under https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
      Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales.
      Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
      The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months.

      Solicitation, key sources and quality of information
      The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
      With Rated Entity or Related Third Party Participation       YES
      With Access to Internal Documents                                    NO
      With Access to Management                                             YES
      The following substantially material sources of information were used to prepare the Credit Ratings: public domain and the Rated Entity.
      Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting these Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data. Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and/or Outlooks and the principal grounds on which the Credit Ratings and/or Outlooks are based. Following that review, the Credit Ratings were not amended before being issued.

      Regulatory disclosures
      These Credit Ratings and/or Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlooks are UK-endorsed.
      Lead analyst: Thomas Gillet, Director
      Person responsible for approval of the Credit Ratings: Dr. Giacomo Barisone, Managing Director
      The Credit Ratings/Outlooks were first released by Scope Ratings on January 2003. The Credit Ratings/Outlooks were last updated on 2 December 2022.

      Potential conflicts
      See www.scoperatings.com under Governance & Policies/Regulatory for a list of potential conflicts of interest disclosures related to the issuance of Credit Ratings.

      Conditions of use / exclusion of liability
      © 2023 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Ratings UK Limited, Scope Fund Analysis GmbH, Scope Investor Services GmbH, and Scope ESG Analysis GmbH (collectively, Scope). All rights reserved. The information and data supporting Scope’s ratings, rating reports, rating opinions and related research and credit opinions originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data. Scope’s ratings, rating reports, rating opinions, or related research and credit opinions are provided ‘as is’ without any representation or warranty of any kind. In no circumstance shall Scope or its directors, officers, employees and other representatives be liable to any party for any direct, indirect, incidental or other damages, expenses of any kind, or losses arising from any use of Scope’s ratings, rating reports, rating opinions, related research or credit opinions. Ratings and other related credit opinions issued by Scope are, and have to be viewed by any party as, opinions on relative credit risk and not a statement of fact or recommendation to purchase, hold or sell securities. Past performance does not necessarily predict future results. Any report issued by Scope is not a prospectus or similar document related to a debt security or issuing entity. Scope issues credit ratings and related research and opinions with the understanding and expectation that parties using them will assess independently the suitability of each security for investment or transaction purposes. Scope’s credit ratings address relative credit risk, they do not address other risks such as market, liquidity, legal, or volatility. The information and data included herein is protected by copyright and other laws. To reproduce, transmit, transfer, disseminate, translate, resell, or store for subsequent use for any such purpose the information and data contained herein, contact Scope Ratings GmbH at Lennéstraße 5 D-10785 Berlin.

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