Participants gesture while holding a giant banner reading “France is a country of immigrants” during an election night rally following the initial results of the second round of French parliamentary elections at Place de la Republique in Paris on July 7, 2024.
Emmanuel Dunant | Editorial photo by Getty Images
The initial indications for Sunday evening’s runoff elections in France have brought big surprises, with political commentators considering a “hanging parliament” scenario that could pose challenges for both policymaking and financial markets.
Some predict that France’s left-wing New Popular Front coalition will win the most seats in the election, with President Emmanuel Macron’s Ensemble party and its alliance in second place and the far-right National Rally in third. Neither party is expected to secure the 289 seats needed for an absolute majority, which could lead to deadlock in the coming weeks.
The euro fell about 0.3 percent against the U.S. dollar in thin trading on Sunday evening after the exit polls were released.
Ahead of the second round of voting, Citi analysts warned that the stock market may be a little too optimistic about the French election and that a “more likely outcome” such as a stalemate “could mean a 5-20% fall in stock market valuations.”
“This, combined with our findings that French stocks tend to be more volatile than other countries around elections, may be a reason to expect more volatility going forward. For comparison, a 10% move in French stocks typically equates to an 8% move in the broader Stoxx 600 index,” the analysts said in a June 26 note.
Analysts at investment firm Daiwa Capital Markets also spoke of uncertainty if no party can secure an outright majority. A grand coalition of moderate-left and center parties, a unity government or a minority government are all possible outcomes, they said in a research note earlier this week.
“In any case, uncertainty regarding the outlook for French policymaking is likely to persist for a long time,” the analysts said.
Since the election was announced, the tax and spending plans of the left-wing New Popular Front and the far-right National Rally (RN) party have been a major cause for concern.
France is facing a tough fiscal situation, and two weeks ago the European Commission announced that it would subject France to deficit measures after it failed to keep its budget deficit below 3% of its gross domestic product. Deficit measures are measures initiated by the European Commission against EU member states that exceed budget deficit limits or fail to reduce their debt.
“A divided parliament means it will be difficult for any government to pass the budget cuts needed to bring France into compliance with EU budget rules and put public debt on a sustainable path,” Jack Allen Reynolds, deputy chief eurozone economist at Capital Economics, said in a note shortly after the Brexit poll was published.
“The reintroduction of EU budget rules and the entry into excessive deficit procedures of several countries, including France and Italy, increases the likelihood that the French government (and other governments) will clash with the EU over fiscal policy,” he added.
Uncertainty has been growing in French bond markets in recent weeks, with the premium between the country’s borrowing costs and those of Germany recently trading at its highest level since 2012.
Benchmark yields on French 10-year government bonds also rose above 3.3%, the highest level in about 12 months since President Macron called general elections in mid-June.
Early indications of a left-wing coalition victory could actually be worse economically than a National Coalition government, David Roche, president and global strategist at Independent Strategies, said in a note Sunday. He said any sense of relief from avoiding an outright victory for the far-right National Coalition would likely be short-lived, and recommended shorting French government bonds against German ones, where “the spread is just 70 basis points.”
Short selling involves making a bet that the price of an asset will fall.
“This is a Congress in limbo with some kind of uneasy alliance negotiated by a discredited president, but with no policy agenda,” he said.
Holger Schmieding, chief economist at Berenberg Bank, sees a parliamentary limbo as the most likely and least pessimistic scenario since Macron first announced elections.
“But this is still not a good result, to say the least. It marks the end of Macron’s pro-growth reforms. Any government, whether led by current Prime Minister Gabriel Attal or a candidate more acceptable to the centre-left, will struggle to deliver results,” his team of analysts said in a recent research note.
Shane Oliver, chief economist and head of investment strategy at AMP, said a hung parliament would be bad for reform and deficit reduction, but he said it could be seen as the least bad outcome for markets because it would reduce the likelihood of conflict over fiscal policy and deter radical NR policies.
—CNBC’s Jenni Reed and Holly Eliatt contributed to this article.
