Council opinion

of 10 February 2004

on the updated stability programme of France, 2003-2007

(2004/C 43/04)

THE COUNCIL OF THE EUROPEAN UNION,

Having regard to the Treaty establishing the European Community,

Having regard to Council Regulation (EC) No 1466/97 of 7 July 1997 on the strengthening of the surveillance of budgetary positions and the surveillance and co-ordination of economic policies(1), and in particular Article 5(3) thereof,

Having regard to the recommendation of the Commission, after consulting the Economic and Financial Committee,

HAS DELIVERED THIS OPINION:

On 10 February 2004, the Council examined the 2003 update of the stability programme of France which covers the period 2003 to 2007. The updated programme largely complies with the requirements of the revised "code of conduct" on the content and format of stability and convergence programmes. Even if it is not compulsorily required in the code of conduct, the presence in the programme of explicit projections for general government revenues and expenditures categories on a national accounting basis would have allowed a deeper analysis of the quality of the projected budgetary adjustment.

On 3 June 2003, on the basis of a Commission Recommendation the Council decided in accordance with Article 104(6) EC that an excessive deficit existed in France and issued a recommendation based on article 104(7) EC requesting France to bring this situation to an end by 2004 at the latest. On 8 and 21 October 2003 respectively, the Commission adopted two recommendations on the basis of Article 104(8) and 104(9) respectively for the Council to decide 1. that no effective action had been taken by France in response to the recommendation of 3 June and 2. to give notice to France to take the necessary measures to bring the government deficit below 3 % of GDP in 2005 at the latest. On 25 November 2003, the Council did not adopt the two Commission recommendations but adopted instead a set of conclusions endorsing, among other things, the commitments made by France to reduce the cyclically-adjusted deficit by 0,8 per cent of GDP in 2004, and by 0,6 per cent of GDP or a larger amount in 2005 so as to ensure that the general government deficit is brought below 3 per cent of GDP in 2005.

The medium-term projections of the 2003 updated programme are based on the same budgetary strategy already adopted in previous updates. The cornerstone of this strategy is the setting of multi-annual targets for the increase in real government expenditures, implying a fall of the expenditure to GDP ratio and a decline in the general government deficit. In the 2003 update, this strategy is complemented by two new budgetary rules: 1. any higher-than-expected revenue stemming from more favourable cyclical developments will be allocated to deficit reduction; and 2. any budgetary margin stemming from a slower-than-planned increase in expenditures will be allocated to tax relief.

A strategy based on clear norms for expenditure growth is appropriate as it supports a transparent budgetary adjustment. In this respect, the ability to contain state expenditure demonstrated in 2003 is positive but the previously set expenditure targets for general government as a whole, in particular social security, were missed by a large margin. Appropriate measures should be taken in order to improve the compliance with the expenditure targets. Beyond the impact on deficit outcomes, the non respect of expenditure ceilings could, if repeated, damage the overall credibility of the budgetary strategy, given the relevance of these norms as an anchor. In order to secure the attainment of objectives, the French authorities should introduce a mechanism ensuring automatic compensation across years of eventual overspending in the government sector. Concerning the first of the new budgetary rules, in the event of more favourable cyclical developments, it would be appropriate to accelerate the reduction in the cyclically-adjusted deficit through the implementation of additional measures. Concerning the second rule and taking the need to accelerate the deficit reduction into account, any budgetary margin stemming from a slower-than-planned increase in expenditures should be allocated to deficit reduction. The 2003 update projects real GDP growth to accelerate from an estimated 0,5 % in 2003 to 1,7 % in 2004. For the period from 2005 to 2007, the macroeconomic projections are based on the same two scenarios as in previous updates: a "cautious" scenario, in which real GDP growth averages 2,5 % a year over the period, and a "favourable" scenario where real GDP growth reaches 3 % per year. Consumer price inflation is expected to remain moderate at 1,5 % throughout the time span of the update. The growth assumption for 2003 is outdated: the Commission forecast of real GDP increasing by 0,1 % appears more plausible. The forecast for 2004 appears plausible. Concerning the years 2005-2007, the projections of the "cautious" scenario seem realistic. This scenario was therefore considered as the reference scenario for assessing budgetary projections.

The update targets a general government deficit of 3,6 % of GDP in 2004 compared to an expected deficit of 4,0 % of GDP in 2003. For 2005, 2006 and 2007, the projections are for headline deficits of 2,9 %, 2,2 % and 1,5 % of GDP respectively. The primary balance is projected to improve from 0,6 % of GDP in 2004 to 1,6 % of GDP in 2007. In cyclically-adjusted terms, based on Commission calculations according to the commonly agreed methodology, there is an improvement by 0,6 percentage points to 3,2 % of GDP in 2004. In 2005, 2006 and 2007, the cyclically-adjusted deficits amount to 2,6 %, 1,9 % and 1,3 % of GDP respectively.

Under plausible macroeconomic and budgetary assumptions, the adjustment path in the programme seems to be insufficient to eliminate the excessive deficit in 2005. Indeed, the achievement of this objective is surrounded by several risks: 1. real GDP growth in 2003 was probably lower than assumed in the update, and the 2003 government deficit may consequently turn out to be higher than expected; 2. the achievement of the expenditure target set for 2004 is uncertain and requires full implementation and efficiency of the measures introduced; 3. the improvement in the cyclically-adjusted balance planned for 2005 relies on measures which still have to be designed and implemented, particularly the reform of the health insurance system. Because the deficit is planned to be reduced only marginally below 3 % in 2005, the materialisation of only one of the above-mentioned risks, if not compensated, would compromise the reduction of the deficit below 3 % of GDP in 2005. In such a case, the implementation of additional measures would be necessary to secure the correction of the excessive deficit situation in 2005 at the latest. France should implement all necessary measures in line with Council conclusions of 25 November 2003, in particular to ensure that the deficit will be below 3 % of GDP in 2005 at the latest.

Based on Commission calculations according to the commonly agreed methodology, the budgetary stance in the update is insufficient to ensure that the Stability and Growth Pact's medium-term objective of a budgetary position of close to balance or in surplus is achieved within the programme period. In addition, with the same methodology, a budgetary position providing a sufficient safety margin to avoid in the future breaching the 3 % of GDP deficit threshold under normal macroeconomic conditions would not be reached before 2007.

The debt ratio is projected to start declining only in 2006, and to remain above the 60 % reference value of the Treaty throughout the period covered by the programme. The evolution of the debt ratio might be less favourable than projected given the risks to the deficit outcomes mentioned above.

France has recently passed a comprehensive pension reform that increases the number of contribution years for entitlement to a full pension, raises the financial incentives to remain active until and after the legal retirement age, and changes the reference for the indexation of pensions in the public sector from wages to prices. While France is in a considerably better position than before the reform to meet the budgetary costs of ageing population, risks of unbalances in the long term cannot be ruled out. Securing an adequate primary surplus will be essential to ensure that the public finances are on a sustainable footing. This should be complemented, particularly in the context of the reform of the health insurance system to be designed and implemented in the course of 2004, by measures aimed at controlling the evolution of spending.

The economic policies as reflected in the 2003 update are partly consistent with the recommendations in the Broad Economic Policy Guidelines, specifically those with budgetary implications. Indeed, even if the budgetary plans for 2004 and 2005 include an improvement in the cyclically-adjusted balance higher than the minimum of 0,5 percentage point of GDP recommended by the Council, the cumulative improvement in the cyclically-adjusted balance under way may be insufficient to bring the nominal deficit below 3 % of GDP even in 2005. In addition, the 2003 update does not foresee the attainment of a budgetary position close to balance or in surplus in the horizon of the programme. France should therefore ensure that the budgetary consolidation continues in the years after 2005, namely through a steady reduction in the cyclically-adjusted budgetary deficit by at least 0,5 percentage points of GDP per year or more if necessary to achieve the medium-term position of government finances close to balance or in surplus and bring back the debt ratio to a declining path.

(1) OJ L 209, 2.8.1997.