US embassy cable - 05PARIS4565

UNCLAS SECTION 01 OF 03 PARIS 004565 
 
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USDOC FOR 4212/MAC/EUR/OEURA 
 
E.O. 12958: N/A 
TAGS: ECON, EFIN, PGOV, ELAB, FR 
SUBJECT:  BRETON PROPOSES MEASURES TO BOOST GROWTH AND 
EMPLOYMENT 
 
1. SUMMARY.  GOF Finance Minister Thierry Breton finally has 
broken out of his shell and announced measures to boost 
economic growth and reduce unemployment, admitting that GDP 
growth will be lower than 2% in 2005.  These measures may 
help in the long term, but they are more likely to increase 
budget spending than restore confidence, create jobs, boost 
government's coffers, or solve structural problems.  END 
SUMMARY. 
 
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Economic Growth Slows; Unemployment Remains High 
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2.  On June 22, Finance Minister Thierry Breton admitted 
that the rise in oil prices (USD 59.52 per barrel in New 
York on June 20) have weighed on the current economic 
recovery by crimping corporate profit margins and eroding 
households' purchasing power.  The French unemployment rate 
remained stubbornly stuck at 10.2%.  He publicly 
acknowledged that GDP growth could increase less than 2% in 
2005, cutting the Government GDP forecast for the second 
time in three months.  Breton predicted that after GDP 
growth of 0.8% (annualized) in Q1 and the weak spot for 
growth had passed, the GDP growth rate should return between 
2.0% and 2.5% in the second half-year.  He said that, over 
the long term, France must find ways to boost annual GDP 
growth to 3% if it wants to reduce unemployment and protect 
its social benefits. 
 
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Public debt Surges: France "living beyond its means" 
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3.  Breton, in a catchy sound bite, declared that "France is 
living beyond its means", saying his concern for the French 
economy was that rising debt levels are unsustainable and 
that France must reverse the relentless 25-year build-up in 
its public debt.  The public debt would amount to 1,100 
billion euros in 2006 or to a record 66% of GDP, above the 
EU limit of 60%.  He warned that 2006 income tax receipts 
could almost equal the interest payments of France's debt 
and "the cost of the debt is taking away all our room for 
maneuver in our economy."  Breton added that the economy had 
to be subject to "rigorous management," saying that he was 
working "day and night" on this with his Budget Minister 
Jean-Francois Cope. 
 
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Government Action I:  Increasing Budget Spending and 
Decreasing Some Taxes to Boost Growth and Employment 
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4.  In his first policy address on June 8, Prime Minister 
Dominique de Villepin gave himself 100 days to revive 
confidence in the economy.  After being named to the 
position on May 31, he acknowledged his own "feeling of 
employment insecurity."  He stressed that his mission is to 
get a suffering and angry France "back to work," and 
earmarked an additional 4.5 billion euros in spending to 
boost employment and economic growth. 
 
5. To this end, the government has already proposed new 
labor contracts for "very small businesses - VSBs", which 
will extend the probation period to two years from several 
months - during which period, VSBs may lay off workers 
without long notice and administrative proceedings.  The 
idea is to encourage companies employing fewer than 10 
employees to expand and export.  The government will also 
remove some taxes and administrative proceedings, and will 
improve unemployment benefits and vocational training, 
offering a one thousand euro bonus for long-term unemployed 
to accept job offers. 
 
6.  On June 21, Breton proposed additional incentives to 
encourage the unemployed to find jobs in more economically 
buoyant regions.  If a job-seeker has to move more than 200 
km from home to find a job, he/she will be entitled to a one- 
year income tax exemption.  Breton also announced new tax 
breaks aimed at helping companies raise funds.  Under the 
plan, investors would be exempt from taxes on profits when 
companies go public on Alternext.  Individuals would also 
get a tax deduction equal to 25% of their investment in 
companies controlled by investment funds, extending a break 
that now exists for channeling funds to closely-held 
businesses. 
 
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Government Action II: Calling the French to Work More 
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7.  Breton also called the French "to work more, throughout 
their lives" in order to create growth and "finance our 
social model."  He hammered "France has to make an effort to 
achieve growth of more than 3% at least."  He warned that 
financial pressures would intensify due to demographic 
pressures.  In 2006, the number of people aged between 15 
and 60 would decrease for the first time. 
 
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Government Action III: Selling Shares to Reduce Record Debt 
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8.  Villepin stated on June 8 that the Government would 
stick to its commitments to contain government budget 
spending at the rate of inflation.  Breton said it was 
essential to launch a full-blood public debate about 
economic prospects, including a debt reduction strategy.  He 
insisted that the budget deficit would be kept to below 3% 
of GDP in 2006 in spite of economic slowdown.  The 
government is pressing ahead to sell Government stakes in 
companies to reduce public debt.  The government plan is to 
sell shares in gas utility Gaz de France that will start 
trading by July 14.  The initial public sale began on June 
23. 
 
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Bank of France's Governor: Respect EU Deficit Rules 
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9.  Governor of Bank of France Christian Noyer at the same 
time announced that he had told the French government that 
it was "crucial" that it respects EU budget deficit rules, 
and reduces the government budget deficit to below the 
Stability and Growth Pact Limit of 3% of GDP.  In 2004, the 
budget deficit amounted to 3.6% of GDP (septel).  Noyer 
identified three risks in the French economy:  a steady 
deterioration in foreign trade, a sharp rise in real estate 
prices, and persistent government budget deficits.  He urged 
the government to make structural reforms to achieve 2% 
potential GDP growth. 
 
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OECD Warns About Fiscal Sustainability 
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9.  In its June 16 report on France, the OECD forecast 
French GDP would increase 1.4% in 2005.  OECD recommended 
that France control budget spending, improve its labor 
market and intensify competition, if France wants to spur 
economic growth and employment.  OECD warned about a threat 
to "fiscal sustainability" in France, the second largest EU 
economy.  OECD argued that reducing public debt would allow 
spending more on pensions and rising health insurance.  OECD 
said that a lack of control over government budget spending 
could leave France unprepared to deal with the financial 
consequences of an aging population.  OECD advised cutting 
the number of civil servants by attrition (which is possible 
since a significant number of civil servants are retiring), 
and to limit wage increases.  OECD also recommended reducing 
the number of offices participating in the calculation and 
collection of taxes, notably by implementing withholding 
income taxes. (In the French tax system, some taxes may be 
withheld, but income taxes are not.)  OECD advocated France 
to deregulate "excessively regulated sectors" to increase 
productivity and employment. 
 
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However, Unions Still Strongly Opposed to "Liberalism" 
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10.  Unions representing gas and electricity sectors called 
for renewed action on June 22 to protest government 
employment policy, including a plan to sell shares in Gaz de 
France.  Labor unions had threatened strikes if De Villepin 
weakened the national safety net for the unemployed and job 
protection guarantees.  Secretary General of Force Ouvriere 
said after meeting De Villepin on June 6 "we won't accept 
putting the labor code in jeopardy." 
 
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Economists Reactions 
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11.  Many economists think as Chief economist of Natexis 
Banques Populaires Marc Touati that the "French industry is 
practically in recession, consumption remains fragile and 
employment is insufficient."  Morgan Stanley Chief economist 
Eric Chaney thought that Breton was right in his diagnosis, 
but criticized his failure to question the French model 
itself and announcing only "baby steps" of reforms.  Chaney 
urged opting for a breakthrough strategy by a ban on 
politicians taking baby steps, and openly questioning the 
French social model. 
 
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Comment 
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12.  Villepin will likely struggle to meet his goal to 
revive confidence in 100 days.  We do not see how his 
government can succeed in significantly reducing 
unemployment in such a short period of time.  Convincing 
consumers and companies in September that the economic 
situation has improved over the summer - a vacation period 
in France that is not favorable to job-creation - will be a 
tough sell.  Breton's options are also rather limited and 
focused more on the medium-term.  In identifying debt 
service as a major source of spending, and by addressing the 
problem by selling shares in state-owned companies, Breton 
is effectively admitting that his measures will not have 
immediate results on economic growth and job creation.  It 
appears almost certain that the government budget deficit 
(septel) may again exceed EU limits for the fourth straight 
year.  The government has no room either to implement new 
steps in the 30% income tax cuts promised by President 
Chirac by 2007 or to reduce corporate tax cuts to spur 
economic growth as the U.S. government has in the past. 
Breton has floated the idea of "a dialogue with the French" 
to persuade them of the need for serious structural reforms. 
However, Breton's recent political caution and the 
government's low approval ratings would not augur well for 
such an approach. 
WOLFF