"Economic objectives are the right ones and policies to attain them have been correctly identified. Very substantial fiscal adjustment—3 percent of GDP in the past three years—has been achieved and the structural fiscal deficit has been halved since 2010. But the adjustment strategy followed until now—with an emphasis on raising revenue—has reached its limits. Against this backdrop, the Stability Program and the National Reform Program lay out a course for the next three years with expenditure reduction and measures to increase the supply response of the economy at its core.
In our view, the course for fiscal policy is appropriate. Over decades, a permanent structural fiscal deficit—driven by public spending that has outpaced GDP—has boosted public debt. The resulting erosion of fiscal space constrained the government’s ability to sustain demand as the economy slowed down in 2012-13. The concomitant rise in taxes has weighed on the capacity of the economy to grow. Recreating room for policy maneuver has become critical to enable the government to respond more flexibly in the face of possible future shocks. And cutting spending has become critical to help put social safety nets on a sound footing for future generations. For these reasons, we support continued adjustment as envisioned in the Stability Program.
However, the fiscal policy objectives are very challenging. First, the planned reductions in taxes mean that the cutbacks to spending relative to trend will need to be very large if public finances are to be brought back to balance over the medium term, as they should. The needed cuts have been put at euro 50 billion over the next three years. If achieved, these expenditure savings would be remarkable by historical standards. Second, the recovery of economic activity is likely to remain subdued. We project real GDP growth of 1 percent this year and 1.5 percent in 2015, as supply side measures will boost growth only gradually. Even so, risks of a weaker rebound persist. With the economy operating well below capacity, we also expect inflation to remain at around 1 percent. All of this will make the task of the authorities very difficult. More accommodative monetary conditions would help with the implementation of the fiscal program and bring forward the benefits of structural reforms.
Execution risks are sizeable. Achieving the deficit objectives while delivering on the tax cut commitments leaves no room to deviate from the announced expenditure reductions. The major risks are that the initial plans may be diluted in sequential annual budgets and that cuts in transfers to local governments may be compensated by unsustainable cuts in investment, higher taxes or higher debt. This would undermine the government’s fiscal rebalancing strategy. Also, if there is an overreliance on containment rather that structural measures, expenditure growth will bounce back once pressures subside".
IMF: France: 2014 Article IV Consultation
