France: Staff Report for the 2003 Article IV Consultation Supplementary Information
Author: International Monetary Fund
Publication Date:
29 Oct 2003
eISBN:
9781451813456
Language:
English
Keywords:
ISCR; CR; authority; deficit; government; General government balance; fiscal consolidation strategy; GDP elasticity; budget proposal; draft social security budget; spending growth; structural adjustment; Budget planning and preparation; Fiscal stance
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Over the past several years, implementation of IMF recommendations has been lacking not so much in intention as in pace and timing owing to political economy considerations and a strong social preference for publicly provided services. The discussions focused on how to foster a durable economic recovery while tackling long-standing threats to fiscal sustainability. The authorities were attentive to the possible adverse short-term effects of underlying fiscal adjustment on growth. The authorities acknowledged that containing health care spending growth would be a key challenge.

Abstract

Over the past several years, implementation of IMF recommendations has been lacking not so much in intention as in pace and timing owing to political economy considerations and a strong social preference for publicly provided services. The discussions focused on how to foster a durable economic recovery while tackling long-standing threats to fiscal sustainability. The authorities were attentive to the possible adverse short-term effects of underlying fiscal adjustment on growth. The authorities acknowledged that containing health care spending growth would be a key challenge.

1. This supplement to the staff report for the 2003 Article IV consultation with France (SM/03/318,9/15/03) provides an update on recent developments, in particular the authorities' 2004 budget proposal and medium-term fiscal plans. Revisions to GDP reveal a weaker-than-previously estimated economic performance, leading the staff to lower 2003 annual growth slightly with a consequently larger general government deficit. The economic outlook remains one of an only tentative and gradual recovery. On the policy front, fiscal consolidation is planned to start in 2004 and continue at a steady pace through 2007. The EU institutions' reaction to the fiscal plans—which indicate that the deficit is not expected to edge below the 3 percent SGP ceiling until 2005—is still being formulated. Policy intentions are in line with the staff appraisal, whose thrust remains unchanged. There are questions, however, as to whether health spending can be controlled as envisaged. Along with only modest progress on civil service retrenchment, the additional income tax cuts contained in the 2004 draft budget risk running ahead of effective expenditure control.

2. The authorities have lowered their growth projections appreciably, with the economic recovery expected to start only toward the end of 2003. GDP growth is officially estimated to be ½ percent in 2003, somewhat higher than staff (now at a revised 0.3 percent), and 1.7 percent in 2004, in line with the September Consensus Forecast, but somewhat less than the staff projection of 2 percent (Table 1). The latter mainly reflects higher staff projections for growth in the US and EU. Both the authorities and staff nevertheless recognize the existence of significant downside risks. French data released following the staff report’s issuance—though clearly affected by the summer heat-wave—also suggest caution: while business sentiment picked up slightly, consumer confidence remained at depressed levels, salaried employment continued to stagnate, and unemployment rose further. On inflation, the staff has marginally raised its CPI projection for 2003 and 2004 given a stronger effect of the drought on food prices and the rebound in oil prices.

Table 1.

France: Main Economic Indicators

(Annual percentage change, unless otherwise indicated)

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Sources: Data provided by the authorities and Fund staff estimates.

Data from the INSEE quarterly national accounts system.

Change as percentage of previous year's GDP.

Harmonized CPI.

For 2003, year on year in August.

In percent of labor force; harmonized index.

GDP over total employment.

Personal disposable income deflated by the implicit deflator for private consumption,

In percent of household disposable income.

In percent of potential GDP.

Idex; Base 1995=100. For 2003, data as of June.

In percent of GDP; Data for 2001-02 excludes the proceeds from the sale of UMTS licenses, which amounts to about 0.1 percent of GDP.

3. The 2004 budget envisages a reduction in the general government deficit to 3.6 percent of GDP, through expenditure restraint designed to accommodate both the government's key priorities and some further tax cuts. The authorities estimate the 2003 budget deficit at 4 percent of GDP, as spending overruns have continued, partly masked by an upward revision of revenues. The staff has a higher deficit estimate (4.2 percent of GDP) mainly owing to weaker nominal growth. At the central government level, the budget stabilizes expenditures in real terms while also assigning increased resources to governmental priority areas (notably security, justice, defense, education and research). The draft social security budget (to be officially presented in early October) is to include a number of measures designed to curb demand for health care (including reductions in the reimbursement of medicines, increases in patients’ contributions to hospitalization charges, and a tightening of copayment exemptions), while also raising the tobacco tax, earmarked to the social security system. These measures are expected to reduce the social security deficit by slightly more than 0.1 percentage point of GDP. On the revenue side, apart from the previously decided measures (described in the staff report), the 2004 budget contains an additional 3 percent across-the-board cut in personal income taxes and an increase in the earned income tax credit (PPE)1 The intended introduction of a reduced VAT rate on restaurant services remains pending, subject to agreement with EU partners. The budget also takes further steps toward greater transparency, by eliminating or integrating certain off-budget accounts and operations.

4. The authorities view the 2004 budget as striking the right balance between the government's key priority of supporting the economic recovery and its commitment to fiscal sustainability. The authorities note that, with overall real expenditure growth kept at 1.1 percent, the expenditure-to-GDP ratio is set to fall by some 14 of one percentage point. At the same time, they note, the budget is based on conservative growth assumptions and a prudent budgeting of tax revenues (with an underlying GDP elasticity of only 0.6). Consequently, the structural balance is estimated to improve by 0.7 percentage point of GDP. The authorities view the budget as placing public finances on a more transparent and sounder footing, and initiating measurable fiscal consolidation as from 2004.

5. Over the medium term (2005-07), the authorities aim to improve the structural balance by about ½ of one percentage point of GDP per year, while further reducing the tax burden and raising public sector efficiency. In the central scenario, annual average GDP growth is set at 2½ percent, while overall real expenditure growth is to be contained at 1 percent per annum. Social security expenditure is projected to grow at an annual real rate of 2½ percent—a substantial reduction from recent experience—with the social security accounts targeted to be in balance by 2007 (from a projected deficit of 0.6 percent of GDP in 2003). This target is contingent on a comprehensive overhaul of the health care system, to be elaborated in the course of 2004. The authorities estimate these intentions to imply a total underlying adjustment of close to 2½ percentage points of GDP over the four years to 2007 (see text table), bringing the general government accounts to close to structural balance by the end of the period.

France: 2004 Budget and Medium-Term Fiscal Plans (baseline scenario)

(In percent of GDP)

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Source: Projet de hi de finances 2004.

6. In the staffs assessment, the 2004 budget, while initiating the promised structural adjustment and containing a number of helpful features, remains wanting in a number of respects. After several years of underlying deterioration, the planned resumption of fiscal consolidation is most welcome as are the prudent growth assumptions, the careful budgeting of tax revenues, the steps toward increased transparency, and the attention given to further structural reforms. The targeted adjustment however hinges crucially on effective expenditure control, and recent experience has been disheartening in this respect: despite technical measures, budgeted amounts were substantially exceeded in 2002 and appear at risk in 2003 even at the normally well-controlled central government level. In this respect, while marking an advance on previous trends, the planned recourse to attrition to reduce the size of the civil service in 2004 remains overly timid, with a net reduction of about 4,600 budget positions representing less than 10 percent of departures into retirement. While greater ambition on this front would not generate large short-term savings, it could make a key contribution to containing spending growth in the medium term. On the revenue side, the further across-the-board reduction in personal income tax rates is running ahead of measures that ensure durable expenditure restraint and not being geared toward the priority of lowering high marginal rates on labor.

7. In social security, more far-reaching measures than those currently envisaged are likely to be required to contain real health spending growth within the targeted 4 percent in 2004. Thus, the authorities are encouraged to strengthen savings measures upon the formal presentation of the social security budget in early October. While the planned work on broader health care reform in 2004 is welcome, staff remains of the view that—in the absence of a successful blueprint for such reform—continuous steps to curb spending growth will be required in the course of the year. In addition, a mid-year correction of the social security budget—eschewed in 2003—should be adopted in 2004 as needed.

8. The authorities’ plans for underlying fiscal adjustment during 2005-07 need to be backed up with concrete measures and stepped up as needed to secure long-term fiscal sustainability. As noted in the staff report, the recent pension reform will make considerable inroads toward reaching fiscal sustainability provided it is accompanied by the achievement of structural balance by 2008 and of a small structural surplus thereafter and a substantial reduction of the NAIRU. Even so, further changes in the pension or health care regime (or further structural adjustment) would be required to fully stabilize the debt-to-GDP ratio. Against this setting, identified savings measures to date do not provide assurance that the structural deficit will improve as envisaged in the authorities’ medium-term plans. Furthermore, given the importance of expenditure control in achieving the fiscal objectives, staff would encourage further strengthening of the medium-term framework and fiscal rules. In this spirit, the new medium-term plan’s explicit guideline to devote revenue windfalls from higher-than-projected growth to deficit reduction is welcome and will need to be closely observed as growth recovers.

1

Total income tax cuts in the 2002-04 period will thus amount to 10 percent of receipts, or 0.3 percentage point of GDP, with the marginal income tax rate declining to 48.09 percent in 2004 (from 52.75 percent in 2002). Only about half of French households are subject to income tax.

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Cover IMF Staff Country Reports
France: Staff Report for the 2003 Article IV Consultation
Author: International Monetary Fund
Volume/Issue:
Volume 2003: Issue 334
Publisher:
International Monetary Fund
ISBN:
9781451813456
ISSN:
1934-7685
Pages:
44
DOI:
https://doi.org/10.5089/9781451813456.002