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Analysis

Setting stability for poll aftermath

Franco-German monetary entente

by David Marsh in London

Fri 21 Apr 2017

France and Germany are laying plans to preserve economic stability in Europe in the probably inconclusive and possibly turbulent aftermath of the French presidential election culminating on 7 May and the subsequent June parliamentary poll.

For the European Central Bank, which is playing a discreet role in maintaining highly accommodative monetary policy at a time of political upheaval but higher economic growth, one aspect about the French elections is highly disturbing. After 10 years of fire-fighting to mitigate one financial crisis and prevent another, the ECB is still seen by many of the 11 candidates fighting the presidential contest as a symbol of unpopular and out-of-touch European policy-maker.

The competition to choose the next incumbent of the Élysée Palace is wide open. The French Institute of Public Opinion (Ifop) forecasts centrist Emmanuel Macron, a former economy minister, winning 23% of the vote, while far-right Marine Le Pen scores 22%. Conservative François Fillon and far-left Socialist-turned-neo-Communist Jean-Luc Mélenchon are each likely to earn 19% of the vote, according to Ifop. The two-week interval following the first round this Sunday, 23 April, will see wide-range jockeying among the two final contenders, foretelling further confusion in what has already been one of the most volatile periods in French politics since the birth of the Fifth Republic in 1958.

Macron, the narrow favourite, would probably exert a calming influence on Berlin-Paris ties. He is generally the most stabilising candidate in the eyes of financial market participants. But even Macron has been criticising what is increasingly seen in Paris as Germany’s overweening economic strength.

Le Pen, the National Front (FN) leader, is likely to win the first round on Sunday. With positions and alliances on key issues like immigration, law and order, unemployment and the euro likely to oscillate before the 7 May finale, Le Pen cannot be written off.

Le Pen campaigners say her supporters are far more secure in their voting intentions than those behind the Macron ‘bubble’. Pointing to the under-estimation of last year’s British anti-European Union campaign and Donald Trump’s election bid, Le Pen’s managers say opinion polls flatter Macron and under-record her support.

Le Pen’s backers claim the FN can win as many as 300 seats in the two-leg parliamentary vote on 11 and 18 June, just a week after the surprise 8 June UK election. Even if Le Pen loses the presidential run-off and wins a more realistic 50 seats in the National Assembly, the FN will still have considerable nuisance value in the next legislature.

Against this background, the ECB is maintaining a steadying influence – justified by its mandate to return inflation to close to 2% – by continuing highly accommodative monetary policies during the election season in France. Depending on the French outcome, the ECB may extend through to the September German elections its caution about raising interest rates or reining back its quantitative easing through cutting large-scale asset purchases. QE is highly contested in Germany by the Bundesbank and many mainstream economic thinkers. French opinion – including at the Banque de France – regards negative interest rates as the greater evil in view of the deleterious effect on profitability of the big French banks.

In practice, these differing views of the two most important central banks in the euro area cancel themselves out. Responding to the great diversity of views among the French presidential contenders, as well as less extreme but still deep-seated divergences on Europe between the Christian Democratic and Social Democratic parties in Germany, the Bundesbank and the Banque de France appear to have reached an informal compact on monetary policy unity. They seem to have agreed to put forward monetary policy initiatives at the ECB governing council only in accord with each other. This Franco-German entente should be an important part of eventual withdrawal of ECB stimulus measures, if developments go according to plan, later this year.

David Marsh is Managing Director of OMFIF.

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