ODDO BHF Experts’ Insights
This month’s investment insights delve into 3 topics: the unprecedented political uncertainty in France following the call for early legislative elections; the potential for small and mid-cap companies in Europe to outperform large caps amidst structural challenges in the region; and the risk of a potential "Liz Truss" scenario for US public debt.
Dive into today’s economic and financial stories with in-depth analyses from our experts. Bruno Cavalier ; Laurent DENIZE ; Jan Viebig
An update on French politics: scenarios, risks and safeguards
By Bruno Cavalier, Chief Economist, ODDO BHF
A major political shock – On June 9, following the defeat of his party in the European elections, President Macron decided to dissolve the National Assembly as the French Constitution gives him the right to do (once a year at most). He called for early elections in two rounds, on June 30 and July 7. Emmanuel Macron's mandate lasts until spring 2027. Only he can decide whether to stay in office or resign. He cannot run for a third consecutive term.
This dissolution was totally unexpected. This is an exceedingly rare event in French history. This has shaken up the French political landscape and pushed investors to take a closer look at France's economic and fiscal situation. The French risk premium has increased.
Three political blocs – The French legislative elections which are taking place in 577 constituencies will be a competition between three political blocs. A left and far-left bloc (Nouveau Front Populaire), whose economic platform is extremely radical and would lead to strong tensions with European partners. A centrist bloc formed by Macron and part of the center-right. Finally, the bloc formed by the National Rally (Rassemblement National, RN) and some allies. As it comes closer to power, the National Rally is in the process of attenuating many points of its economic platform in order to make it fiscally credible.
Possible scenarios – The result of the legislative elections is uncertain, but in view of the recent European elections and several polls, the National Rally is the dominant force with around 35% of voting intentions. In the two-round electoral system, this makes it possible but not certain to have an absolute majority in the Assembly. The left/far-left bloc represents a little more than 25%, the centrist bloc is between 20% and 25%.
Four scenarios can be considered. Two are low-probability scenarios, namely a victory for Macron's party or a victory for the left/far-left bloc. Two scenarios have a high probability: either a victory for the National Rally, or a deadlock situation if no bloc clearly wins over the others.
Whaf if the National Rally wins the election – If the RN obtains an absolute majority, the Constitution requires that President Macron appoint Jordan Bardella, the leader of RN, as Prime Minister. It would be a situation of “cohabitation” where president and Prime Minister represent different political forces. This has already happened three times in the past. In this case, the president has primacy for foreign affairs while the prime minister leads domestic affairs.
Having come to power, the National Rally would have to choose between applying a program which initially provided for a sharp increase in government deficits or making it compliant with external constraints (financial markets, European Union). The first path could cause a financial crisis (Liz Truss scenario), the second a normalization (Georgia Meloni scenario). Recent statements from the RN point towards the second option.
It is notable that the National Rally abandoned the idea of “Frexit” (leaving the EU) in 2017.
What if there is a political stalemate – This would be an unprecedented situation under the Fifth Republic (founded in 1958). Various constitutionalists consider that the only solution would be to have a technocratic government responsible for running day-to-day affairs but without much room for maneuver for major reforms. This situation would undoubtedly lead to a new dissolution in a year.
Numerous safeguards – The French Constitution strictly regulates the legislative capacities of a government. There can be no questioning of the independence of justice and individual freedoms. In addition, France is bound by the European Treaties. Given the current budget deficits, the Commission will require fiscal adjustment efforts over the coming years and the next government will have to convince the financial markets that these efforts are credible. Failing this, market sanction could quickly put an end to the experiment (as observed in Italy in 2011, in Greece in 2015 and in the United Kingdom in 2022).
Where is France heading?
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‘SMID’ is beautiful… despite France
By Laurent Denize, Co-Chief Investment Officer, ODDO BHF
Europe faces significant structural challenges that impact its productivity compared to the US. Market fragmentation and regulation, a high proportion of small businesses, elevated taxes and lower R&D spending are some of the key contributors to this disparity. However, since the global financial crisis, these downsides have not worsened; in fact, many have become less detrimental.
European small firms make up a significant part of the corporate sector, especially in comparison to the US. American companies with 250 employees or more account for 59% of business employment, compared to 43% in Germany and 48% in France. Small businesses often allocate resources less efficiently than larger firms and are slower to adopt new technologies.
US public debt: a potential “Liz Truss” scenario?
By Prof. Dr. Jan Viebig, Co-Chief Investment Officer, ODDO BHF
If a frog is thrown in boiling water, it will leap out instantly. But if placed in cold water that is slowly heated, it will supposedly stay there. As the tale goes, the frog only perceives the slow change in temperature as a danger when it is beyond saving. In reality of course, frogs are not that foolish. Rather, the story serves as a parable for the following point: people often seem to ignore slowly building risks until it is too late.
This is particularly true of national debt. In the US specifically, government debt has surged in recent years. According to the Congressional Budget Office (CBO), by the end of 2024, US national debt, insofar as it is not held by the government agencies (so called debt “held by the public”), is likely to sit just below the 100% mark of gross domestic product (GDP). Gross debt, which aligns more closely with European definitions, is around 25 percentage points higher.
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