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France: Moody's downgrades France, withdrawing triple-A rating

November 20, 2012

On 19 November, Moody's downgraded the country's sovereign rating to Aa1 from Aaa, with a negative outlook. Moody's is the second of the three large rating agencies to remove the top credit rating for France, following a similar move from Standard and Poor's in January. The move undermines the credibility of the government's latest efforts to rekindle economic activity in the Eurozone's second largest economy. The agency cited the weak growth outlook as well as concerns over the government's ability to successfully reduce the fiscal deficit to 3.0% of GDP by next year as the main reasons for its decision. The downgrade fuels doubts about France's ability to balance its public finances and buttress economic growth but had a limited effect on long-term bond yields, which rose 6 basis points in the following days, with 10-year government bonds closing at 2.14% on 26 November, 85 basis points above the German Bund. Moody's did not downgrade the ratings of the European Financial Stability Facility (EFSF) and the European Stability Mechanism (ESM), which both still enjoy triple-A ratings. However, most analysts expect Moody's to also downgrade those funds, since France as the Eurozone's second-largest economy is also the second-biggest contributor to the bailout funds. Finance Minister Pierre Moscovici responded to the downgrade with a pledge to push ahead with the National Growth, Competitiveness and Employment Pact presented on 6 November. The reform is expected to boost economic growth by restoring competitiveness in the French economy. Amongst other measures, the pact envisages a cut in payroll taxes through a EUR 20 billion annual tax relief to companies. In the same vein, President Hollande has also asked unions and companies to agree on a plan to increase labour flexibility, although according to analysts an agreement is unlikely before the year-end deadline. Meanwhile, on 8 November, France and Belgium agreed to inject a further EUR 5.5 billion into Dexia. France will provide EUR 2.6 billion of the total amount, thus adding further stress to the country's public finances. The operation marks the third bailout in four years for the troubled lender, and comes in the wake of a massive loss reported by the bank in the third quarter.


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