After falling the government: crisis in Paris: Will France become a risk to the euro zone?

The government broke, the budget crisis remains: France’s center-right government failed after just under nine months, Premier François Bayrou failed in the question of trust in parliament. The hanging game in France has serious consequences not only for Germany’s neighboring country. It could be a burden for the entire euro zone.

What are the economic consequences of the crisis in Paris?

“The collapse of the government and the associated rejection of Bayrou plans to stabilize the state finances increases uncertainty about the further financial policy course of France,” says Clemens Fuest, President of the IFO Institute, the news magazine “Politico”. The decision – the second largest economy in the euro zone – could put the decision to the brink of a serious crisis of the state finances. “Since France plays an important role for the EU and the euro zone, the already weak economic development in Europe would be further impaired.”

Why is the situation in France so precarious?

In terms of economic output, France has the third highest debt rate in the EU to Greece and Italy with 114 percent. In absolute figures, the highest debt mountain in the euro zone is placed in the country with around 3,300 billion euros. Government spending are also among the highest in Europe. The budget deficit was last 5.8 percent. The EU opened a deficit procedure against France in July 2024.

Do Italian conditions threaten in France?

In addition, new debts for France are becoming increasingly expensive for France in the face of political crises and a lack of savings efforts. The country has to offer investors for new government bonds.

“Investors are concerned about the high and further increasing public debt in France. The bond returns have already risen significantly more in France than, for example, in Italy, and now the return of ten-year-old French government bonds is hardly under the Italian,” says Commerzbank chief economist Jörg Krämer.

Reforms urgently needed – only who enforces them?

According to the investment bank Goldman Sachs, the greatest economic challenge for France will be to stabilize public debt. In addition, the country absolutely had to tackle reforms again to boost growth.

Joachim Schallmayer, head of capital markets and strategy at Dekabank, does not believe in it: “The failed question of trust represents the preliminary endpoint of a development that confirms the incapacity to reform from France and shows that even the smallest austerity measures are not majority capable.”

Thomas Gitzel, chief economist at Liechtensteiner VP Bank, says that because of the fragmented political landscape, budget consolidation in France will not succeed until the next presidential elections in 2027. “Without consolidation, the debt rate will continue to increase significantly”.

Will France become a danger to the euro zone?

“France will continue to remain with more precise observation of the markets,” says Deka capital market strategist Schallmayer. “The risk of an abrupt increase in the risk premiums must be observed closely, but the lost vote of trust will not be the trigger for this, not even for a new euro crisis debate.”

The economist Gitzel sees similarly: “So far, the financial markets regarded France as a single risk and not as a systemic risk for the entire euro zone.” This should also be due to the fact that the European Central Bank (ECB) has an extensive instrument box for crises.

How can the ECB intervene if necessary?

If the risk surcharges of French government bonds continue to rise significantly, the ECB could make support purchases, Gitzel believes. The central bank has the “Transmission Protection Instrument” (TPI), in which the ECB could buy bonds of individual euro states to an unlimited extent in the event of a crisis. However, there are hurdles for this: The program is used to “protect countries that are exposed to unjustified market attacks, and not those that make poor financial policy decisions,” explains Berenberg economist Felix Schmidt.

ECB President Christine Lagarde recently commented relatively general about the crisis in France. “Every impending fall of the government in a country of the euro zone is worrying,” she told Radio Classique. However, the French banking system is better positioned than during the last financial crisis and it does not expect France to inquire about the renovation of its finances from the International Monetary Fund (IMF).

Lagarde will also have to ask questions about France after the interest rate of the ECB this Thursday. It is quite possible that the situation in Paris will deal with the central bank even more.