France peers into the blackness

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A French "Black Wednesday" appears to be looming. The pressure on the franc and the troubles of the economy as France tries to keep pace with Germany all sound terribly reminiscent of the UK, autumn 1992, just before we tumbled out of the Exchange Rate Mechanism. The financial markets are selling the currency in the belief that its value cannot keep up with the mark. The French central bank has raised interest rates to stop a serious run on the currency. Meanwhile, economists think French policy doesn't add up. Because interest rates are so high, and the currency so overvalued, they argue, the home economy cannot grow and unemployment cannot fall. And the government deficit is too high, not least because of the cost of supporting the jobless.

The British sirens beckon: forget shadowing the mark, cut interest rates, let the franc float, and just watch while growth increases and unemployment falls, as it has in Britain since Black Wednesday. But devaluation is not an easy option for President Jacques Chirac. The political risks are more severe, and the economic benefits less extreme, than those faced by the unfortunate Norman Lamont in 1992.

Unlike Britain, France is not deep in recession. In fact, growth has been steady at around the European average. High exports undermine the idea that the franc is overvalued, because foreigners are clearly still buying French goods. But the fact remains that French real interest rates, at 5.3 per cent, are considerably higher than those in Germany, the UK, the US and Japan.

The crux of the problem for the French is whether they are prepared to go on bearing the pain. Mr Chirac pledged in his election campaign to make unemployment the "priority of priorities". Currently at 11.4 per cent, it is the biggest worry for the French electorate. Yet sticking with the mark makes it much harder to create jobs.

The alternative for Mr Chirac is not much more palatable. To abandon the mark is seen as surrendering the founding principle of post-war political stability in Europe - that France and Germany co-operate as equal partners. The first casualty of dropping the hard franc policy would be to blow away the timetable for European monetary union; in the longer run, French political leaders fear that it would weaken the centre of the European Union in a way that would turn the Continent into a glorified Deutschmark zone.

In the end, though, the French economy will be strong enough to withstand a long-term alliance with Germany only if other reforms to bring down unemployment, increase growth and cut the deficit are successful. The structure of the ERM does now allow for greater short-term flexibility.

President Chirac will be weighing up the political pros and cons. He risks social discontent and anger at home on the one hand, building on today's threatened strike by 5 million public sector workers, or a potential European crisis on the other. Damned if he does back the franc, damned if he doesn't, Mr Chirac may be damned most savagely of all if he dithers in the middle. For the financial markets will pursue any sign of doubt about the currency by speculating ever more heavily.

Europe's interest lies in seeing these tensions managed through. It is not the moment to insist upon the monetary union timetable at all costs.