Vanguard warns France is ‘degrading credit’ as borrowing costs surge
Iran war has exacerbated fiscal pressures on Paris as budget battle looms
Asset management giant Vanguard has warned that France’s “degrading” creditworthiness is likely to drive up its borrowing costs even further, as investor concerns mount over the government’s inability to bring down its budget deficit.
The firm, which manages $12tn in assets, warned that the presidential election in April could further darken the outlook for France’s stretched public finances if candidates from the far left to the far right refuse to back unpopular spending cuts, and the country could suffer more credit downgrades.
“People forget how bids in [debt markets] that become the centre of geopolitical issues can disappear in times of crisis,” Ales Koutny, head of international rates at Vanguard, told the FT, referring to demand from investors to buy the bonds.
“[At the election] next year you may have some political parties doing some grandstanding and that might lead to further ideas of fiscal loosening,” he added. The firm has a smaller-than-benchmark weighting in French government bonds.
Vanguard’s comments highlight France’s status as the new focal point for market concerns over European debt sustainability, with its bonds having suffered disproportionately in this year’s bond sell-off, amid investor concerns over the government’s ability to reduce the fiscal deficit to below the target of 5 per cent of GDP.
Its 10-year borrowing costs have suffered the biggest jump among the G7 since the Iran war began, rising from 3.2 per cent to a post-2008 high above 4.8 per cent, as concerns over its finances add to a broader sell-off in global government debt.
French bonds’ so-called spread, or extra borrowing cost, over German debt reached above 1.1 percentage points this month for the first time since 2012, in a sign of mounting investor anxiety. It now pays about 0.2 percentage points more to borrow than former debt hotspot Italy, a record spread in data stretching back to the 1990s.
Prime Minister Sébastien Lecornu is facing a budget battle in the coming weeks that could lead the opposition to topple his minority government, in a further sign of the political paralysis that has marred the end of President Emmanuel Macron’s last term.
A suggestion by far-left presidential hopeful Jean-Luc Mélenchon that France could “throw . . . into the fire”, or in effect cancel, some of its national debt held by the central bank has fuelled concerns about a lack of political appetite to rein in borrowing.
France was “a long-term degrading credit”, Koutny said, adding that its spread with Germany rising above 1.5 percentage points is “a strong possibility for us” if the fiscal situation worsens. He compared the situation to Italy’s spread widening by more than two percentage points following its inconclusive 2018 general election, in which populist parties surged in popularity.
France was downgraded by Scope earlier this month to A plus from AA minus, with the rating agency citing “continued deterioration in the fiscal outlook, characterised by persistently high fiscal deficits, rising interest expenditure and a growing public debt burden”.
In a sign of the sovereign debt’s diminishing safe-asset status in the minds of investors, French yields have in recent years moved above those of big French multinationals such as LVMH for debt with similar maturities.
Mizuho strategist Evelyne Gomez-Liechti said that France was “increasingly trading more like a lower-rated sovereign than an A-rated” issuer, but that without a catalyst to stabilise the market, “few investors appear willing to step in front of the widening move”.
Viewed as one of the biggest victims of rising inflation and the global debt squeeze, bond investors have responded poorly to Lecornu’s recent proposal for next year’s budget, which includes a €54bn savings drive. His chances of passing it through a hung parliament also appear slim given that opposition presidential candidates have little reason to compromise, say analysts.
“Markets have grown increasingly anxious about fiscal metrics,” said Pooja Kumra, a rates strategist at TD Securities.
The government has said the deficit will widen to 5.5 per cent of GDP this year, well above target. Slowing economic growth — France now lags its neighbours — has also complicated efforts to improve its finances.
Nevertheless, some investors are buying the dip. Gareth Hill, a fund manager at Royal London Asset Management, said the firm had taken advantage of the recent jump in French yields to bet that the debt will outperform that of Italy and Germany.
“We think a lot of the concerns over France are already reflected in the price,” he said, adding that some of the recent price action seemed to be driven by investors being forced to sell their positions as they hit internal risk limits.
In a note earlier this month, HSBC’s European rates strategist Chris Attfield said France’s debt was the cheapest it had been since at least 2008, whether judged against its Eurozone peers or on its debt-to-GDP metrics.
“A price will be found where the market clears, and it’s more a question of where that settles,” he added.
Agence France Trésor said in a statement on Tuesday that it planned to sell €340bn in medium- and long-term debt net of buybacks next year, while borrowing costs were expected to reach €72.9bn.
Such an issuance would represent a record amount and a roughly 10 per cent increase from 2026.