France now borrows at higher rates than Greece

On 28 November the yield on French ten-year government bonds (OATs) rose above Greece’s borrowing cost for the first time in modern history. Greece, at the centre of the 2012 sovereign debt crisis, now borrows more cheaply than one of the founders of the European project. The usual order of the eurozone’s core and periphery has flipped.

From snap election to deadlock

The trouble began in June, when Emmanuel Macron dissolved the National Assembly after his party's heavy defeat in the European elections. The snap vote produced a parliament split three ways between a left-wing alliance, the president's centrists and Marine Le Pen's National Rally, with no bloc near a majority. Mr Macron appointed Michel Barnier as prime minister in September, at the head of a minority government that survives only as long as the National Rally declines to vote with the left against it. The spread between French and German ten-year yields has since widened to its highest since the euro crisis of 2012.

Paris pays for its politics

The cause is political breakdown in Paris, where Michel Barnier’s minority government faces immediate no-confidence motions over its austerity budget. France is running a deficit close to six per cent of GDP, and no majority in parliament agrees on how to cut it. Greece went through a decade of painful consolidation, and investors now charge it a lower risk premium than France.

The immediate trigger came on 2 December, when Mr Barnier used Article 49.3 of the constitution to push the social security budget through without a vote. The left and the National Rally both tabled censure motions in response, and a vote is expected this week. The wider budget aims to bring the deficit down to 5 per cent of GDP next year through tax rises and spending cuts, and its defeat would leave France without an agreed plan to repair its public finances.

How the premium feeds the deficit

The mechanism works slowly and then compounds. France's public debt already exceeds 110 per cent of GDP, and every year the Treasury must refinance maturing bonds and fund the new deficit on top. Each of those auctions now clears at a higher yield than before, so the interest bill creeps up with every issue. A wider spread over Germany is therefore a direct cost to French taxpayers, and it makes the task of cutting the deficit harder, since part of any savings is swallowed by higher debt service.

The cost does not stop with the state. Government yields set the floor for what French banks, companies and home buyers pay to borrow, so a rising sovereign premium tightens credit across the economy. French banks, which hold large amounts of their own government's debt, see the value of those holdings fall as yields rise.

Why Greece looks safer

Greece's rehabilitation has been long and deliberate. After three bailouts, Athens ran primary budget surpluses and cut its deficit, and last year S&P and Fitch restored its credit rating to investment grade for the first time since the crisis. Much of its debt is owed to European rescue funds on long maturities at low fixed rates, which keeps its interest bill modest. France, by contrast, was downgraded by S&P in May, and Fitch and Moody's both moved their outlooks to negative in October.

Lessons from the gilt crisis

Bond markets have punished a large, rich economy for fiscal drift before. In September 2022 Britain's unfunded tax cuts sent gilt yields soaring, forced the Bank of England to intervene to protect pension funds and brought down Liz Truss within weeks. France's version is slower-moving, and the euro gives it the shelter of a shared currency. The lesson still applies: investors will demand a higher premium from a government that cannot pass a budget well before anything resembling a crisis.

The case for calm

The strongest counterargument is that the crossover says more about Greek bonds than about French solvency. Greece's market is small and thinly traded because so much of its debt sits with official lenders, so its scarce bonds trade at rich prices. France has a deep and liquid market, high household savings, a long average maturity on its debt that slows the pass-through of higher yields to its interest bill, and a rating still several notches above Greece's. That is why the move matters as a sign of direction rather than of default risk.

The European Central Bank's Transmission Protection Instrument could in principle cap French yields, but it is meant for countries that comply with EU fiscal rules, and France was placed under the excessive deficit procedure in July. The things to watch are this week's censure vote, whether any government can pass a budget before the year ends, and the spread over German Bunds when the ECB meets on 12 December.

A fallen government would not leave the state unable to pay its bills. French budget law provides for a stopgap special law to roll over the previous year's tax and spending authority, which would keep the lights on but freeze the deficit reduction the budget was meant to deliver. The rating agencies, which have further reviews of France due in the months ahead, would read that as another year lost.

For France, paying more than Greece is an embarrassment. It is also a warning: the gap will probably widen if Barnier falls and no government can pass a budget, because bond markets are ready to punish a core country that cannot get its finances in order. Should the censure motion pass this week, expect the spread over Bunds to widen further and another rating downgrade within months, with French taxpayers and borrowers bearing the higher cost of money.