The Socialist government of President Francois Hollande heeded
calls to make French industry more competitive internationally.
Heeding calls to make French industry more competitive internationally by reducing labor costs, the Socialist government of President Francois Hollande said Tuesday that it would cut payroll taxes for businesses.
To make up for the revenue shortfall, the government plans to raise the main sales tax, the value-added tax, to 20 percent from 19.6 percent, while also making budget cuts
But the government stopped well short of adopting the broader range of changes that an expert panel had recommended to the Hollande government a day earlier in a report that called for a "competitiveness shock" to the French economy.
And yet, the government's plan to cut payroll taxes by a total of EUR 20 billion, or $25.6 billion, over three years is "a cultural shift for the French Socialists," said Gilles Moec, an economist at Deutsche Bank in London. "They've always looked with suspicion on the idea that there was a labor-cost problem in France."
Prime Minister Jean-Marc Ayrault, after a meeting of officials to discuss the economy, issued a statement Tuesday saying the government had to act because "France has known 10 years of industrial stagnation." If the trend were allowed to continue, he added, the country's decline "would be a certainty."
The centerpiece of the plan announced by Mr. Ayrault is a payroll tax cut that will lower the cost of labor for French companies. In theory, at least, that would encourage new investment and reinvigorate exports. The first EUR 10 billion of the tax break will be applied to businesses' 2013 taxes when they file in 2014, and it will be apportioned over three years.
The second EUR 10 billion of tax breaks will be applied in installments of EUR 5 billion each over the following two years.
The size of the payroll tax reduction is in line with the recommendation of a government-commissioned report prepared by a panel led by Louis Gallois, a former chief executive of European Aeronautic Defense & Space. The report offered an array of proposals meant to revive the stalled French economy.
But the government chose to spread the reduction over three years, rather than the one or two years Mr. Gallois had recommended for maximizing its impact. And it rejected Mr. Gallois's proposal that the share of payroll taxes paid by employees be reduced by EUR 10 billion.
Paying for the measures will require the government to break a vow by Mr. Ayrault made in September that there would be no increase in sales taxes under Mr. Hollande's five-year term.
That increase could prove highly unpopular on the left, as sales taxes are among the most "regressive" levies a state can impose, with the burden falling disproportionately on the poor, who spend a higher portion of their income than the rich do.
The value-added tax will rise in January 2014 to 20 percent from the current 19.6 percent, but the minimum V.A.T., on basic needs like food, will fall to 5 percent from 5.5 percent.
The "intermediate tax," which covers things like restaurant meals and home renovations, will rise to 10 percent from 7 percent. All told, those taxes are to raise EUR 10 billion.
The government's economic package announced Tuesday includes an additional EUR 10 billion of unspecified spending cuts atop the EUR 30 billion in cuts Mr. Hollande had previously announced.
Mr. Hollande won the French election in June, and the confidence of many investors, with a campaign promise to bring France's 2013 budget deficit down to the E.U.-mandated standard of 3 percent from about 4.5 percent this year. But many economists and some of his allies on the left have argued that cutting spending and raising taxes will risk weakening the economy further at a time when the euro zone is in recession and the global economy faltering.
The focus on cutting labor costs "is an economic misdiagnosis, it's a social error," Jean-Claude Mailly, secretary general of Force Ouvriere, one of France's more militant unions, told Europe 1 radio on Tuesday. It will lead to "social dumping," he said, because the Germans will feel obligated to cut their own labor costs. "It will never end," he added.
"I prefer the other measures proposed in the Gallois report," he added, "on innovation, research -- things that don't have an immediate payoff, but do over 30 years."
The International Monetary Fund forecast Monday that the French economy would expand just 0.4 percent in 2013, after 0.1 percent this year. Mr. Moec, the Deutsche Bank economist, said the government's action would probably have little immediate economic effect.
"I don't want to diminish the symbolic significance of what they've announced today," Mr. Moec said, "but the impact will probably be less than what the government would like to communicate." For one thing, he noted, businesses are already facing a tax increase next year, "and this will partially just offset that."
The government has been struggling to answer critics in the opposition and in business who have been calling for decisive action to right the economy. Mr. Hollande's latest move is much more business-friendly than those announced in September, when he alienated many of the country's elite by announcing that he would raise the tax rate on all income exceeding $1 million a year to 75 percent from the current 41 percent.
The government said Tuesday that it was also creating a EUR 500 million fund to aid small and midsize businesses that are facing financial difficulties. And it said it would seek to implement unspecified new "green taxes" worth at least EUR 3 billion by 2016.
Investors took the measures announced Tuesday in stride. The Paris benchmark CAC-40 stock index gained 0.6 percent in afternoon trading, in line with other European markets.
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