DBRS Ratings GmbH (DBRS Morningstar) confirmed the Republic of France’s Long-Term Foreign and Local Currency – Issuer Ratings at AA (high). At the same time, DBRS Morningstar confirmed the Republic of France’s Short-Term Foreign and Local Currency – Issuer Ratings at R-1 (high). The trends on all ratings remain Stable.
KEY RATING CONSIDERATIONS
The Coronavirus Disease (COVID-19) pandemic has materially affected the French economy and the country’s public finances. As a reminder, DBRS Morningstar downgraded France’s long-term ratings to AA (high) from AAA on October 16, 2020 to reflect the significant deterioration in the country’s economic performance, its fiscal balance and its already high debt metrics as a result of the pandemic and the related restrictions. France’s gross domestic product (GDP) declined by a substantial 8.2% in 2020, while the country’s fiscal deficit widened to 9.2% according to the first estimates released by the French statistical office INSEE. Simultaneously, the country’s debt-to-GDP ratio increased to 115.7% at the end of last year, from 97.6% at the end of 2019. Although the magnitude of the COVID-19 shock has been very significant for the French economy and its public finances, DBRS Morningstar points out that the 2020 results have marginally outperformed earlier estimates.
Overall, in 2021, a strong economic recovery is expected in France, reflecting expectations of an improvement of the healthcare situation and the progressive lifting of restrictions in the second semester of the year. Although economic projections remain clouded with uncertainties, in particular related to the healthcare situation, DBRS Morningstar’s latest economic scenarios released in March 2021 consider an increase of 5.5% in France’s GDP this year in the moderate scenario. This is in line with the latest Banque de France forecast which forecasts 5.4% GDP growth this year.
The Stable trend primarily reflects DBRS Morningstar’s view that the French government remains fully committed to improving its medium-term fiscal trajectory once the COVID-19 crisis has mostly passed. As a result, DBRS Morningstar considers that France’s ability to stabilise its debt-to-GDP ratio in coming years and subsequently place it on a firm downward trend will be key for the country to maintain its very strong credit profile.
France’s AA (high) ratings are underpinned by the country’s wealthy and diversified economy, strong public institutions, and financing flexibility. The country has continued to substantially reduce its overall public sector debt interest costs in 2020, demonstrating its excellent financing conditions. France’s strong system of social protection and its structurally high level of public expenditure-to-GDP, although they represent strong automatic stabilisers for the French economy and its households, they tend to make fiscal consolidation more difficult. In addition, the country’s high public sector debt metrics, although benefiting from a reinforced affordability in recent years, continue to remain a source of vulnerability for France.
The ratings could be upgraded if future fiscal consolidation of the public balance sheet is faster and more durable than currently expected; or if the policy response to the crisis significantly improves the productive capacity of the economy.
The ratings could be downgraded if the government takes significantly longer than is currently expected to repair the medium-term fiscal outlook or improve the trajectory of public sector debt.
The COVID-19 Pandemic Has Adversely Affected The French Economy
The COVID-19 pandemic and in particular the restrictions imposed by the national government to contain the spread of the virus have taken their toll on the French economy in 2020. The global healthcare crisis and the subsequent measures imposed by the French government to curb infections contributed to an 8.2% GDP contraction in 2020, a greater decline than that of the euro area average of -6.6%. This GDP contraction, although substantial, outperforms earlier government estimates that anticipated a possible decline of up to 11%. This better than expected outturn reflects the solid performance of the French economy in the second semester of last year, with a particularly strong rebound in the third quarter following the temporary lifting of earlier restrictions. Despite the resurgence of the virus in October and November 2020, France has managed to cope with new infections through the implementation of additional restrictions in November, but these affected substantially less the country’s economic growth than during the first stricter lockdown period in March and April last year.
More recently, the healthcare situation in France deteriorated, particularly reflecting the spread of new virus variants, which have prompted the government to implement additional restrictions to ease the pressure on the French healthcare system. These include the closure of schools and non-essential shops throughout the month of April, with the aim of curbing infection levels and possibly reopening the economy from May onwards. Current forecasts from the Banque de France foresee a slight GDP growth in Q1 2021 compared with Q4 2020. The economic recovery throughout the year is likely to depend in part on the speed of the vaccine rollout, which after a relatively slow start, has begun to gather pace. As of 14 April 2021, 17% of the French population had received at least one dose of the vaccine (representing 11.7 million doses), with 6% having received two doses. In coming weeks and months, a further boost in vaccination is expected as more vaccines become available. The government currently expects to administer 20 million of first doses by mid-May and 30 million by mid-June, which would correspond to about 45% of the population or close to 60% of the adult population. Reaching these milestones will be key for the government to lift containment measures and for the recovery to gather pace in the second semester of 2021.
The government’s GDP forecast for 2021, which includes the negative impact of the most recent restrictions, considers 5% growth this year. For 2022, strong growth momentum is expected to continue, supported by pent-up demand as private savings are drawn down and a steady normalisation of economic activity occurs. The government currently forecasts 4% GDP growth next year. These figures remain dependent on the evolution of the healthcare situation in coming months, and particularly on the emergence or not of new virus mutations that could prompt further lockdown measures. Under current assumptions, French GDP should come back to its 2019 level in the second semester of 2022.
DBRS Morningstar expects the long-term output loss related to the COVID-19 crisis to remain limited for the French economy. This primarily reflects the substantial support provided by the government to mitigate the structural impact of the crisis on firms and households. The labour market has for instance been only marginally adversely affected by the crisis, benefiting from unemployment and job support schemes. At the end of 2020, the unemployment rate in France remained relatively low compared to the level recorded over the last decade, at 8.0% compared to 8.1% at the end of 2019 and 9.6% on average between 2010 and 2019.
Similarly, thanks to government support, the level of bankruptcies decreased by 39% last year compared to 2019. This partly reflected the government’s loan guarantee scheme put in place to support firms’ liquidity and currently running until June 2021, which led to the provision of EUR 136 billion of loans to more than 660,000 primarily small and medium sized enterprises (SMEs) as of end-March 2021. While DBRS Morningstar considers that both the level of unemployment and the number of bankruptcies are likely to increase in coming quarters as government support likely winds down, the negative effects of the COVID-19 pandemic on the labour market and the overall private sector should remain limited. Going forward, DBRS Morningstar’s focus will nevertheless remain on analysing the potential long-term scarring from the COVID-19 pandemic on the French economy, and whether or not sectors markedly affected, such as accommodation, catering and air transport can recover fully from the shock.
Government Support Measures Resulted in a Substantial Widening of Fiscal Deficits
France’s fiscal position, in line with other European and international peers, deteriorated substantially in 2020. This reflected the financial support implemented by the national government to mitigate the impact of the economic shock on firms and households. Provisional figures estimate the French deficit to have reached 9.2% of GDP in 2020, substantially larger than the -3.0% recorded at the end of 2019. The deficit reflected a combination of (1) higher expenditure through automatic stabilisers and emergency measures primarily related to healthcare, short-time work, support to companies and social security contribution exemptions; and (2) a lower level of tax proceeds, reflecting the economic contraction.
The latest government estimate for this year is for a deficit of 9% of GDP. This has been recently revised upwards to reflect the new set of restrictions announced at the end of March. The fiscal deficit will continue to be driven by support measures taken by the government in the first half of the year, but also by the government’s economic recovery plan (“France Relance”). This plan, announced in September 2020, corresponds to an additional EUR 100 billion (around 4.4% of 2020 GDP) to be spent by 2022. After EUR 4.5 billion spent in 2020, the government expects a substantial ramp up in expenditure in 2021, with EUR 37.5 billion (1.6% of GDP) scheduled for the year. This plan should represent a sound fiscal stimulus for the French economy over the next two years and is expected to be partly financed by grants under the Next Generation EU (NGEU) programme. The government expects that EUR 17 billion out of the EUR 37.5 billion committed for 2021 would be eventually covered by NGEU funds. France’s maximum grant allocation agreed under the Recovery and Resilience Facility (RRF) represents close to EUR 40 billion, or 40% of the plan overall size, which should also support its implementation in 2022.
DBRS Morningstar views positively the economic recovery plan as it provides immediate spending to support households and businesses affected by the pandemic and should support future job creation and economic activity. The plan has three pillars: EUR 36 billion for healthcare infrastructure and to support employment and training; EUR 34 billion to boost corporate competitiveness by reducing taxation (including EUR 10 billion in production tax reduction) and supporting investment; and EUR 30 billion targeting the government’s ecological objectives.
Over the medium-term, DBRS Morningstar’s focus will remain on the credibility of the government’s plan to rebalance its fiscal accounts, and on the resumption of its structural reform programme, that commenced in 2017 but was subsequently paused by the “yellow vest” demonstrations and the COVID-19 crisis. In particular, delivering on the unemployment insurance reform as well as the pension reform will remain critical for the government to rebalance its fiscal position and to tackle its structurally high expenditure levels. The government projects a gradual reduction in fiscal deficits over the next five years, to a level close to -3% of GDP by 2026/27. In DBRS Morningstar’s view, commitment to rebalancing the budget and stabilising the debt ratio will be key for France to maintain its strong credit profile going forward.
Public Debt Increased Substantially in 2020 but the Cost of Borrowing Continued to Fall
France’s debt-to-GDP ratio increased significantly last year, reaching 115.7%, up from 97.6% in 2019. This increase reflected the joint effects of the large financing deficit and economic contraction. In view of the expected economic recovery later this year, the government forecasts public debt to increase to 117.8% of GDP in 2021. Over the medium-term, debt is expected to stabilise around 118% of GDP, before starting to decline from 2027. These forecasts continue to depend on how the healthcare crisis unfolds in coming quarters and are therefore potentially subject to significant revisions. On the downside, contingent liability risks to the government balance sheet could materialise from calls on loan guarantees or if the sovereign is called upon to support large corporates. A lag in curbing infection levels and stricter containment measures would therefore be likely to affect negatively debt metrics.
While the rapid rise in public debt exposes the country’s debt servicing costs to future increases in interest rates, DBRS Morningstar views positively the strong financing conditions obtained in 2020. This is exemplified by the continuous decrease in the average interest costs of the French government despite the increase in public debt stock. These conditions largely reflected the European Central Bank’s (ECB) asset purchase programme and pandemic emergency purchase programme (PEPP), and allowed France to finance its 2020 medium- and long-term bond issuances at an average interest rate of -0.13% compared with 0.11% in 2019. The French Treasury, through its prudent debt management strategy also took advantage of these favourable financing conditions to continue to extend its debt maturity profile, with an average maturity at year-end 2020 of 8.2 years, increasing from about 7.0 years in 2014. The healthy financing conditions support DBRS Morningstar’s positive assessment of the “Debt Management and Liquidity” building block.
The French Banking Sector Remains Resilient, Although Challenges Are Set to Arise From the Current Crisis
The French banking sector delivered a resilient performance prior to the COVID-19 shock. Banks entered the crisis well capitalised with comfortable capital buffers (CET 1 at 14.9% on average at year-end 2020), and low non-performing loan (NPL) ratios, averaging 2.5%. A key challenge for the French financial system prior to the crisis had been for banks to operate in an environment of low interest rates. The current economic shock further complicates the banking environment. Despite the French banks’ strong diversification and balance sheet positions, DBRS Morningstar expects the banks to suffer a deterioration in asset quality in the coming quarters, as support measures from the government are slowly removed. This deterioration is likely to remain concentrated in the sectors most affected by the pandemic, and should therefore remain manageable for the banking sector.
The surge in credit growth to non-financial corporations (NFCs) in 2020 (+12% year-on-year, yoy) largely reflected the degree of uncertainty related to the healthcare situation and the strong access to liquidity for firms, supported by the provision of guaranteed loans by the government. The proceeds of these loans were, therefore, primarily used by NFCs to finance working capital during the lockdowns, but also as precautionary measures, to increase their cash buffers. The Banque de France estimates that gross debt of NFCs increased by EUR 217 billion in 2020 while their cash reserves increased broadly in parallel by EUR 200 billion, implying limited growth in net debt. For households, excess savings were even more significant, at around EUR 110 billion in 2020. DBRS Morningstar’s view that some of the deterioration in credit and property price metrics from its scorecard are likely temporary – positively influences its “Monetary Policy and Financial Stability” building block assessment.
External Accounts Have Also Been Marginally Affected By The Shock
France’s external performance has been affected in 2020 by the COVID-19 shock. The current account deficit is estimated to have widened last year to 2.3% of GDP from a deficit of 0.7% of GDP in 2019, largely reflecting the impact of the pandemic on the tourism sector and the 45.5% yoy decline in exports from the aeronautics industry (13% of 2019 exports), particularly affected by the crisis. Nevertheless, DBRS Morningstar considers that the deterioration in the current account largely reflects the healthcare situation and containment measures applied and is therefore unlikely to remain over the long-term. DBRS Morningstar continues to consider that France has no material external imbalances and could benefit from the rapid improvement of the external environment in 2021-22, even if the structural impact of the crisis remains unknown. For now, the country’s open economy with extensive trade, investment, and financial linkages throughout Europe and globally continue to support DBRS Morningstar’s positive qualitative assessment of the “Balance of Payments” building block.
Implementing Further Structural Reforms Before The 2022 National Elections Appears Unlikely
The government has so far effectively managed to mitigate the shock of the COVID-19 on French households and firms. Nevertheless, the pandemic has effectively led the government to pause ambitious reform agenda it had set for itself in the last years of its mandate. Although some additional tax breaks for households and firms will take place in 2021, the delivery by President Macron and its government of the long awaited pension reform has been postponed, with priority given to tackling the COVID-19 shock. With French presidential elections currently scheduled to take place towards the end of April 2022, followed by Parliamentary elections (French lower house, which sets the government majority) later that year; further key reforms appear now unlikely. DBRS Morningstar will monitor in coming months the political programmes and agendas of future presidential candidates, particularly with regards to key themes including France’s euro area membership as well as candidates’ commitment to medium-term fiscal consolidation to assess their potential impact on France’s credit profile.
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.
For more information on the Rating Committee decision, please see the Scorecard Indicators and Building Block Assessments: https://www.dbrsmorningstar.com/research/376975.
EURO AREA RISK CATEGORY: LOW
For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883
All figures are in Euros unless otherwise noted. Public finance statistics reported on a general government basis unless specified.
The principal methodology is the Global Methodology for Rating Sovereign Governments https://www.dbrsmorningstar.com/research/364527/global-methodology-for-rating-sovereign-governments (July 27, 2020). Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings https://www.dbrsmorningstar.com/research/373262/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (February 3, 2021).
The sources of information used for this rating include Ministry of Economy and Finance (Budget 2021, September 2020), French Stability Programme (April 2021), National Institute of Statistics and Economic Studies (INSEE), Banque de France (Macroeconomic Projections, March 2021 and April 2021; Assessment of risks to the French financial system, December 2020), Agence France Tresor, High Council on Public Finances, Eurostat, International Monetary Fund (World Economic Outlook, April 2021; 2020 Article IV Consultation, January 2021), World Bank, Bank for International Settlements (BIS), OECD, United Nations Development Programme (UNDP), Haver Analytics. The Social Progress Imperative (2020 Social Progress Index) and the 2019 Global Competitiveness Report from the World Economic Forum were also used. DBRS Morningstar considers the information available to it for the purposes of providing this rating to be of satisfactory quality.
With respect to FCA and ESMA regulations in the United Kingdom and European Union, respectively, this is an unsolicited credit rating. This credit rating was not initiated at the request of the issuer.
With Rated Entity or Related Third Party Participation: YES
With Access to Internal Documents: NO
With Access to Management: NO
DBRS Morningstar does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.
Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are under regular surveillance.
For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. DBRS Morningstar understands further information on DBRS Morningstar historical default rates may be published by the Financial Conduct Authority (FCA) on its webpage: https://www.fca.org.uk/firms/credit-rating-agencies.
The sensitivity analysis of the relevant key rating assumptions can be found at: https://www.dbrsmorningstar.com/research/376959.
This rating is endorsed by DBRS Ratings Limited for use in the United Kingdom.
Lead Analyst: Nicolas Fintzel, Senior Vice President, Global Sovereign Ratings
Rating Committee Chair: Nichola James; Managing Director, Co-Head Global Sovereign Ratings
Initial Rating Date: May 12, 2011
Last Rating Date: October 16, 2020
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