Is France the next greece, threatening the eurozone?

Mumbai: The pecking order in financial markets has changed in the past few weeks, at least temporarily. Boring bonds are in the limelight instead of stocks. While many nations, from the US to Japan, are in focus, France is in the eye of the bond market storm.

What happened to French bonds?

Yields on the French government bonds, known as OAT, topped the 5% mark as investors sold off on worries that the country would not be able to control its public debt. The gap between yields on OAT and German bonds, known as bunds, have widened to record highs and it is paying more than Greece and Italy, which were at the centre of a financial crisis about 15 years ago.

Why this sudden fear about France?

While many countries are facing huge debt problems, the French case is a lot more complicated. The country faces an election next year. And two potential rulers - whoever emerges victorious - have little to comfort investors with their fiscal plans. Neither the right-wing Le Pen nor the left-wing Jean-Luc Melenchon would provide concrete roadmaps to reduce spending or shore up revenues.

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What triggered the sell-off?

Until recently, most European nations' bonds were trading in lockstep with one another. But Japanese investors suddenly took a bearish stance on France and sold off. Japanese own nearly 6.6%, or $145 billion, of their overseas assets in French bonds. After a surge in yields in Japanese Government Bonds in the past few months, it is more remunerative to own home country paper than French, which gets expensive due to hedging costs.

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How good are France's macro numbers?

France's deficit is projected to be at 5.4% in 2026, the fifth consecutive year it has been above 5% and its debt to GDP is at 120%. But isn't it less than some other peers? Yes, but France's problem is that its nominal economic growth has been sluggish and revenue generation is difficult. It halved its GDP growth forecast for the year from 1%. The deficit target at 5% is higher than the European Union target of 3%.

Is there a precedent in the European Union?

Yes. About 15 years ago, the Euro area was swept by a financial crisis with Portugal, Italy, Ireland, Greece, and Spain on the verge of default and getting cut off, drawing the moniker PIIGS. But the European Central Bank chief Mario Draghi saved the currency with a promise to do 'whatever it takes' to protect the Euro.

If France turns shakier, can the ECB save it?

In an extreme case, the central bank has the ammunition. But it is not Greece as yet. The ECB has a 2022 programme called Transmission Protection Instrument where it could buy unlimited bonds to prevent chaos in the market. But since it is a French problem, it may not receive a helping hand. But if it becomes a contagion with other indebted nations such as Belgium and Italy getting sucked in, the ECB may bail the region out.

How does France compare with peers?

The difference in the 10-year yields of France and those of Europe's largest economy Germany has surged 150 basis points, almost three times the 50-basis point difference reported as recently as September. German bunds, considered the best in European debt, are currently trading around 3.45%. This has reignited memories when Greek bonds yield surged to 44%.

So, what are the signals from the bond market?

The US, the UK, Japan etc are witnessing spikes in bond yields not seen since 2002. Thanks to unprecedented government debt since the Global Financial Crisis of 2008, investors are going on strike. The US benchmark is trading above 5%. Surging bond sales by AI investors such as Meta, Softbank, Oracle are adding fuel to the bond fire.
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