Unlike in the U.S., candidates in France’s election have actually focused on how to tackle the national debt, as a new president is due to take charge of the eurozone’s second largest economy next year.
Last month, a French presidential debate was dominated by the country’s rising public debt. By contrast, midterm election races in the U.S. are about data centers, higher gas prices, and the Iran war, even as America’s own mountain of debt hits $40 trillion.
While U.S. lawmakers are largely ignoring the issue, financial markets aren’t. Treasury yields have jumped in recent weeks, along with those of other heavily indebted countries like France.
In fact, France’s public debt now tops 116% of GDP, which is worse than the U.S. ratio of roughly 100% when measured by publicly held debt. Meanwhile, France’s economy has been mired in low economic growth in recent years, while the AI boom is turbocharging America’s GDP.
But far-left presidential candidate Jean-Luc Melenchon is campaigning on a plan to have the central bank simply cancel its holdings of French debt.
With a lighter debt burden, in his view, the French government could then spend more on social programs. The message is proving to be popular with voters, and polls indicate Melenchon is headed for a runoff with far-right leader Marine Le Pen in next year’s presidential election.
“All we have to do is take the 18% held by the Bank of France and chuck it in the fire,” Melenchon has said.
Easy peasy, right?
France’s own prime minister has warned that reneging on the national debt would force the country to borrow at exorbitant interest rates, just as the government must turn to the bond market to raise more than $360 billion this year.
Melenchon insists his plan is doable as it targets debt held by the central bank, not investors. Still, at a recent campaign event, he hinted debt cancelation may not stop with the Bank of France.
“Why did we make a single currency and an ECB together? We can do it and I bet we’d find allies in Europe,” he said. “There is a debate — I’m not going after private creditors, not at this step in any case.”
But the head of Germany’s central bank, who is also a member of the European Central Bank Governing Council, said Melenchon’s debt cancelation idea would be forbidden under the currency bloc’s rules and could lead to hyperinflation.
“No central bank in the Eurosystem nor the ECB is allowed to cancel national debt,” Bundesbank chief Joachim Nagel told French newspaper Le Monde. “This would constitute monetary financing of government, which is prohibited under the European treaties.”
Although the eurozone’s biggest economy would stand in Melenchon’s way, investors are getting more nervous about French debt. The yield on French 10-year bonds was about 88 basis points above equivalent German yields, nearing the highest spread since Europe’s debt crisis in 2012.
Adding to the turmoil is the fact that there’s no parliamentary majority that would support budget cuts and trim the deficit, which is near 5% of GDP—well above the European Union’s sub-3% target and a cause of additional bond market angst.
Kristian Kerr, head of macro strategy for LPL Financial, pointed to the spread between French and German 10-year yields as a key indicator, with 90 basis points historically serving as a ceiling during times of fiscal stress.
In a note on Wednesday, she warned that if the spread were to decisively top 90 basis points, it could mean investors see France’s fiscal challenges as long term rather than just temporary.
“That shift would matter well beyond France,” Kerr added. “European and global sovereign debt markets remain highly interconnected, and a material deterioration in confidence toward French debt could easily spill over into other countries with weaker fiscal profiles.”
