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France’s incoming president faces having to immediately implement new austerity measures to avoid falling foul of the EU’s budget rules, the European Commission has warned in its winter economic forecasts.

Wading in on an economic issue that has become a lightning rod in its presidential campaign, Brussels latest economic forecasts show France’s budget deficit will hit 3.1 per cent of GDP in 2018, breaching the eurozone’s 3 per cent limit. There is also a risk the deficit could exceed the limit this year.

The question of whether Paris should seek to stick to EU budget rules or fight to revamp them has become one of the major faultlines in the country’s presidential race.

Successive French governments under former centre-right president Nicolas Sarkozy and the incumbent Socialist Francois Hollande have failed to stick to the deficit targets. The Commission forecasts the deficit will shrink to 2.9 per cent thus year from 3.3 per cent in 2016 before rising again to 3.1 per cent in 2018.

France last bought its deficit within the -3 per cent limit in 2007 and was afforded additional time to fall within the EU’s accepted range in 2015 – giving it an extra two years to hit the target.

France’s public spending is set to be pushed higher over the next two years by measures including higher wages for the country’s civil servants, owing to an expiring pay freeze, and increasing healthcare costs in the eurozone’s second largest economy, said the EU.

The independent, pro-EU candidate Emmanuel Macron, a former economy minister, has defended the restrictions as a source of budgetary credibility but they are a bête noire for more radical candidates on the left.

The far-right Marine Le Pen has vowed to rip up the budgetary framework, taking France out of the eurozone and embarking on a radical deficit spending programme.

The issue has fed into broader questions of how to transform the country’s economy after five years of slow growth and double-digit unemployment.

François Fillon, candidate for the centre-right Les Républicains, is proposing the boldest spending cuts of the main contenders – advocating a “Thatcherite” blitz of reforms which include €110bn of savings (equivalent to 4.2 per cent of GDP) by 2022 and a cap on unemployment benefits.

Speaking to reporters in Brussels, Pierre Moscovici, the EU’s economy commissioner, said the budget targets were a sign of “political credibility” for any new French government.

“My humble recommendation to the candidates is to continue [the current trajectory]“, said Mr Moscovici, a former French finance minister. “The economic and political credibility of the country will be reinforced”.

The forecasts also offered some worrying reading for Italy, which is in the middle of difficult negotiations with Brussels over steps to reduce its mountainous debt load. The Commission estimates Italy’s public debt increased to a record 132.8 per cent of GDP in 2016, and will climb again on the back of low growth in 2017.

Failure by Rome to make enough structural effort to rein in its debt would, under EU regulations, limit the scope for Brussels to be flexible in how it applies budget rules to the eurozone’s third largest country.

Mr Moscovici refuted any idea that an “ultimatum” has been given to Rome over its growing debt pile. Brussels has the power to sanction member states in persistent breach of its framework.

UK growth upgraded

The triannual forecasts also hiked the UK’s economic growth after the Brexit vote, with the Commission now expecting GDP growth of 1.5 per cent this year from a November estimate of 1 per cent.

“We must acknowledge that growth has been more resilient than was forecast”, said Mr Moscovici.

Despite the better short-run growth performance, Brussels’ economists said the effects of the leave vote would kick in in the later part of 2017, as higher inflation pinches consumer spending.

In the immediate aftermath of the Brexit vote, the Commission forecasted a “mild” Brexit would inflict a 0.9 percentage point blow on GDP growth – reducing expansion from 1.9 per cent to 1 per cent in 2017.

The latest figures show those numbers over-estimated the referendum effect by over a half, with growth now expected to reach 1.5 per cent from July’s 1.9 per cent GDP growth estimate.

The EU’s figures remain below those of the Bank of England which expects UK economic expansion to come in at 2 per cent this year. The BoE has also rowed back from its initial predictions of a sharp post-Brexit slowdown, revising up UK growth twice in the last three months.

Overall eurozone growth would come in at 1.6 per cent this year, slightly slower than 2016′s 1.7 per cent, said the Commission, as the bloc’s recovery has remained resilient to a number of major political shocks.

For the first time since 2008, all of the EU’s 28 member states are expected to grow in every year over the forecast horizon stretching out to 2019. The EU warned however the US remained the “biggest” external source of policy uncertainty, citing a stronger dollar and Donald Trump’s protectionist pledges as risks to global growth.

France’s forecasted deficit overshoot in 2018 is based on a “no policy change” scenario calculated by the Commission. The figures suggest Mr Macron will be walking a tightrope to stay within the ceiling as his election promises include increasing education spending in poor areas and providing unemployment benefits for the self-employed and “entrepreneurs”.

Mr Moscovici meanwhile condemned Ms Le Pen’s plans to unilaterally withdraw France from the single currency area, saying it would mark “the end of the European project”.

Earlier today, France’s central bank governor said Ms Le Pen’s ‘Frexit’ plan would lead to spiralling debt servicing costs worth €30bn a year.

Copyright The Financial Times Limited 2017. All rights reserved.
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