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French growth was surprisingly up in the second quarter (+0.5% q/q), supported by the positive impact of the lifting of Covid-19-related restrictions on tourism and leisure. The rest of the economy was almost flat according to our estimates (+0.1% q/q) due to accelerating inflation. After a negative first quarter (-0.2% q/q, including "after adjustment"), this indicates a narrowly avoided recession. Looking ahead, however, the deterioration in business surveys, the impact of energy prices on businesses, the drought and the decline in electricity production increase the recessionary risk.
After inflations comes recession? Not systematically, but the nature of the inflation observed since early 2022 lets expect an increased risk of recession for the French economy. During H1 2022, already, the French economy has avoided a recession mainly thanks to the recovery of tourism. However, a couple of shocks has materialized, from drought to higher energy prices and including increasing constraints to energy supply. Corporates have already planned production cuts and the probability for a recession during the next 6 months is increasing.
The French economy sprung a pleasant surprise in view of the headwinds that have been picking up since the start of 2022. Growth was 0.5% Q/Q during Q2, mainly due to the upturn in tourism and leisure business activity after COVID restrictions were lifted from March onwards. However, inflation continued to have an impact, as seen in the further fall in consumer purchasing power during Q2 (-1.1% Q/Q, following on from -1.6% during Q1). This inflation hit 6.1% Y/Y in July before falling back to 5.8% in August (according to the French National Institute of Statistics and Economic Studies (INSEE) national measurements).
Over the next five years, French economic policy will have to continue to deal with structural issues, such as full employment, the delay of companies in terms of robotisation, the competitiveness of companies and the place of industry. It will most likely also continue to focus, at least in the short term, on supporting household purchasing power, as it has done since 2019. These projects, which will have to be carried out in parallel, will have to be reconciled with the cost of the ecological and energy transition against the background of public debt that has already risen sharply and interest rates that are moving higher, albeit in a controlled way.
Inflation has continued to accelerate, at 5.8% y/y in June, and has not yet reached its peak. Most significantly, the energy component saw a further monthly rise of 5.3% in June, having already risen by 9% in March. Not only had the initial shock not yet fully passed through into other prices (food, manufactured goods, services), but this new increase signals a further acceleration in inflation, particularly in the food component which suffered the most from the initial shock (1.4% increase month-on-month and 3.1% over 3 months): In June, this food index has increased by 5.7% y/y, below July 2008’s 6.4% peak, but should rise above and reach 9% in December 2022, according to our forecasts.
The French economy is stuck between three developments with different effects: an inflation shock that is denting consumer spending, a negative supply shock (supply constraints in industry) and the lifting of public health restrictions (benefiting growth as of the second quarter, having held it back in the first quarter). Government measures that have limited inflation were unable to prevent negative growth in the first quarter. However, the positive impact of the lifting of public health restrictions and a rebound in purchasing power should allow for a recovery towards positive growth in the third quarter (+0.3% q/q).
“When the construction sector goes well, so does the economy”. This motto was emblematic of the French business cycle behaviour over the last decades. As a matter of fact, current order books are still at their record level, roughly at 9 months. Against this background, the sector is experiencing heightened pressures, such as cost pressures, which are increasingly reverberating on prices and margins. Moreover, in parallel, demand is already decreasing as reflected by new orders. As a result, sector’s activity may well ease in the future.
In the face of the sharp rise in energy prices, governments of the main eurozone economies took measures to ease the pain for households. If the decline in their purchasing power should be limited in 2022, it should not be fully eliminated.
The latest economic data from INSEE have provided detail on the timing and scale of the purchasing power shock to household consumption, with three figures standing out: the 1.8% q/q fall in the purchasing power of gross disposable income over the first quarter; the revised fall of 1.5% q/q in household consumption (from -1.3% in the initial estimate); and the downgrade in GDP growth to -0.2% q/q, from 0% in the initial estimate.
Inflationary pressures in France continue to grow. The INSEE retail survey for May set a new record, with a balance of opinion on expected selling prices that reached 43, from 36 in April and a long-term average of -2. The housing development sector saw the biggest share of companies forecasting price increases. This echoes the increase in building materials prices and reflects strong household demand: on average over the last three months nearly 25% of households in the INSEE consumer survey have indicated that they intend to spend on housing development (against a long-term average of 21%). This said, the proportion is down on the figure of 26.7% reported for October 2021, suggesting that this demand has wilted somewhat in the face of strong inflation
The sharp rise in energy prices since April 2021 has been the main driving force behind the current surge in Eurozone inflation. The outbreak of war in Ukraine on 24 February accentuated this trend, sending the energy component of the harmonised index of consumer prices (HICP) up 44.4% y/y in March 2022. Faced with this situation, the governments of the four main Eurozone economies under review in this article have acted to try to buffer the shock on economic players, and notably on household purchasing power, via direct subsidies, tax cuts, price regulations and measures to boost nominal incomes
Inflation is continuing to spread among the various components of the consumer price index (CPI). The energy component fell slightly in April (-2.5% m/m) after the government introduced a fuel rebate, but that decline was more than offset by faster inflation in other components of the CPI. Food prices in particular rose by 1.4% m/m in April, the sharpest increase for 20 years, beating figures seen in previous waves of food price inflation in 2007-08 and 2011. Food was the main contributor (0.2 points) to monthly inflation in April (0.4% m/m).
GDP growth should decrease markedly in France during 22H1, as a result of supply-side constraints (weighing mainly on the car and construction sectors). Purchasing power losses add to these constraints and should have their wider impact on sectors affected by the strongest price increases, such as energy and food. Growth should recover from Q3, as income growth should accelerate and improve household’s purchasing power.
French inflation hit 4.5% y/y in March according to the final INSEE estimate, due mainly to another jump in energy costs (up 9% in March alone, a 29.2% increase year-on-year). At the same time, this inflation appears to be starting to bite when it comes to consumer spending on goods: having fallen significantly in January (-2% m/m), this saw only a limited recovery in February (+0.8% m/m). The latest INSEE survey of household confidence was anything but reassuring about the prospects of a short-term rebound. Consumer confidence has fallen sharply, particularly because of fears of further price increases: the balance of opinion on the outlook for prices rose by 50 points, taking it to record levels.
Inflation continued to rise in early 2022 to the point that it began to erode household confidence in March. These purchasing power problems foreshadow a decline in consumer spending. With fiscal support measures limiting the increase in inflation (by nearly 2 percentage points in April), growth is expected to remain slightly positive (0.3% in Q1 and 0.1% in Q2 according to our estimates).
Countries neighbouring Russia and Ukraine are more exposed than those in Western Europe. Among the latter, there are differences, with Germany and Italy being more dependent on Russian gas than France, Spain or Portugal. The countries that import the most from Russia are also the most dependent on Ukrainian imports. The exposure of European countries to Russia and Ukraine, and their vulnerabilities to the economic repercussions of the war between these two countries, result primarily from the high weight of their imports of Russian energy supplies and Ukrainian food and agricultural products
In France, the year 2021 ended with the highest employment rate since the 1970s, the lowest jobless rate since 2008, and a record number of job creations since the Second World War. Half of the labour market’s dynamic momentum can be attributed to the rebound in job creations in the sectors hit hardest by the Covid-19 crisis (notably catering and temporary employment services). The pandemic has also bolstered employment in healthcare and education. Yet the private market sector still bears the marks of the health crisis: employment is 1.3% below the level that it would have reached had the growth rates observed in 2017-19 continued through the end of 2021 (using the same calculation method, real GDP growth is still lagging by 2.2%). The employment rate for the 15-64 age group rose to 67
French GDP growth remained positive in early 2022, as illustrated by the relatively stable INSEE’s survey results through February, in terms of households, businesses and employment. Inflation rose significantly in February, up 3.6% y/y, but it was held down by the stability of regulated gas prices and the cap on electricity prices, which rose only 4%. According to the INSEE’s most recent economic update, inflation would have hit 5.1% without these control mechanisms.
France has reported a structural deterioration in the trade balance for goods since 2015. In January 2022, the deficit swelled to a record high, at a cumulative 12-month total of EUR 73 bn according to the Bank of France’s balance of payments statistics (EUR 88 bn according to the definition used by the customs office1). The trend for the industrial goods deficit to swell has accelerated since 2020 with the decline in aeronautics exports since the beginning of the Covid-19 pandemic. The deterioration observed since November 2021 is mainly due to higher oil prices.Yet the current account balance, which combines all of France’s foreign trade2, draws a different picture: the cumulative 12-month deficit was limited to EUR 23.4 bn in January
According to insolvencies and corporate margins figures, the situation of French companies has improved significantly between 2016 and 2021. Business insolvencies are down roughly 50%. According to our estimates, this has contributed to save 210,000 jobs over the period, including 170,000 jobs during the pandemic alone. Corporate margins have improved by 1.4pp during the last five years and taxation has decreased. Public finance support has been a key driver of this improvement, including through lower corporate and production taxes and, during the pandemic, higher subsidies to production. In 2022, this improvement should reverse partially, mainly because of higher inflation
Abundant job creations in the Eurozone helped bring down the unemployment rate to a historically low level in 2021, but this has also led to hiring difficulties and labour shortages. Labour shortages seem to be having the most restrictive impact in Germany (in all sectors), given the already low unemployment rate. They seem to be weakest in Italy where the job market is less dynamic, and this hierarchy was confirmed regardless of the sector. In France, labour market tensions are the highest in the construction, and comparatively less important in the manufacturing and services sectors. Production constraints due to labour shortages have reached a record high in the services sector, especially in Germany
Purchasing power is a major concern for French households, a hot topic that is currently acute. For the first time since 1989, inflation is expected to rise above the 3% threshold for most of the year 2022. Aggregate household revenue is growing at a dynamic pace, offsetting the observed inflation impact. Purchasing power has increased by 2.3% in 2021 and a slight gain at 0.2% is even possible in 2022. Strong job creations have bolstered the total disposable income of French households. Looking at the average compensation, purchasing power has increased by 1.1% in 2021, but is expected to contract by 0.6% in 2022
Health restrictions implemented in front of a new wave of the Covid 19 pandemic dominated by the Omicron variant seem to have had only a mild impact on growth in early 2022, and the gradual lifting of these restrictions bodes well for a rebound in growth. These disruptions occurred in the midst of a rather favourable environment.
The issue of de-industrialisation is often raised in France. Indeed, manufacturing now represents only 13% of GDP and 12% of payrolls (against 19% and 15% respectively in 2000). Capacity in French industry peaked in the early 2000s, before experiencing multiple setbacks; in parallel, industrial employment fell, and the trade deficit widened. Production capacity has reduced further in recent years and is nearly 20% lower than it was in the early 2000s. Although order books are overall the same as in 2018, production capacity is nearly 6% lower, which may explain why French industry is struggling to keep up with demand. A rebuilding of production capacity would be possible
France has registered a record trade deficit in 2021, about EUR 85 bn. Oil prices were the main trigger of the deterioration compared to 2020. However, in the medium run, the main structural evolution is the deepening of the deficit on industrial goods: by about EUR 25bn during the last 10 years to 50bn in 2021. In 2022, the trade deficit should reach EUR 100 bn: a sizeable burden on French’s purchasing power.
