The political chaos in France is casting a long shadow on economic growth

French lawmakers will hold a vote of no confidence in Prime Minister Michel Barnier’s fragile minority government on Wednesday, as economists warn the likely political stalemate will carry heavy economic costs.

Two so-called “no-confidence motions” from both the left-wing and the right-wing extremist opposition parties will be debated and voted on from 4 p.m. local time. It is widely believed that the government is likely to be overthrown just three months after its formation. If the government collapses, Barnier – who has failed to find a compromise in the closely divided National Assembly to pass a 2025 budget law to reduce France’s high deficit – will be forced to submit his resignation to President Emmanuel Macron.

From then on there is uncertainty. Macron will eventually have to name a new prime minister, having already struggled to secure such an appointment following the snap summer election that gave the left-wing coalition the most votes but did not give either party a majority. The long-time minister Barnier was seen as a technocratic compromise.

“Once Barnier resigns, Macron will probably ask him to stay on as interim. The alternative option of formally reappointing Barnier appears unlikely given the apparent lack of a majority,” said Carsten Nickel, deputy research director at Teneo, in a statement on Tuesday.

This transitional status could take months, as new elections cannot take place until next year. Another possibility is that Macron’s resignation would lead to presidential elections within 35 days, Nickel said.

He added that such a series of events would result in the draft budget not being passed and a last-minute agreement appears unlikely.

The caretaker government is therefore likely to put forward a special constitutional law that would “effectively extend the 2024 financial year without the previously foreseen spending cuts or tax increases, while authorizing the government to continue collecting taxes,” he said.

Amid the turmoil, borrowing costs are rising in France, while the euro has fallen into negative sentiment – exacerbated by gloomy euro area manufacturing data and concurrent political volatility in Germany.

“France faces a growing budget deficit that will become more expensive to finance as its (government bond) yields rise amid this uncertainty,” analysts at Maybank said in a note on Wednesday.

For international investors, the situation in France looks “very bad,” Javier Díaz-Giménez, professor of economics at Spain’s IESE Business School, told CNBC by phone.

“Without a budget they would actually become insolvent, not because they couldn’t pay the interest on their debt, but because without a budget they wouldn’t. Rating agencies are already issuing warnings that 10-year French bonds have a higher premium than Greece’s, which is fundamentally crazy,” he said. Greece briefly lost its investment grade credit rating as a result of the debt crisis in the euro area, which led to the country’s national bankruptcy.

“But that’s because pension funds don’t care, they just want assured income without worrying about legal shenanigans. So they will dump (French bonds) and go somewhere else,” Díaz-Giménez said.

“Beyond economic growth and stability, this will push France’s debt in an unsustainable direction.”

Economists had already lowered their growth forecasts for France after the publication of the budget proposal in October due to sweeping tax increases and public spending cuts.

Analysts at Dutch bank ING, who had previously predicted a slowdown in French growth from 1.1% in 2024 to 0.6% in 2025, said on Tuesday that the fall of Barnier’s government was “bad news for the French economy were”.

They also predicted the adoption of an interim budget reflecting the 2024 framework.

“Such a budget will not correct the evolution of public spending,” they said, rejecting Barnier’s goal of reducing the public deficit from 6% of GDP to 5% in 2025 – which would mean France is not moving towards the new one Goals of the European Union would come fiscal rules.

“At a time when economic growth in France is slowing significantly, this is bad news. The public deficit will remain high, debt will continue to rise and the next government – ​​whenever that may be – will have an even more difficult task getting the public finances in order,” the ING analysts said.

Gilles Moëc, chief economist at AXA Group, noted in a note on Monday: “France can count on large reserves of domestic savings to replace international investors, and the flow of data in the euro area is helping to diversify European yields from US yields “Decoupling, but it points the way forward in the medium term.” Too much domestic savings to finance the state can be costly in terms of growth dynamics.”

“Consumer confidence has already fallen and the savings rate could rise further, which would undermine the recovery in consumption that the government is counting on to support tax revenues in 2025,” Moëc said.

With both countries mired in political turmoil, the spread between France’s borrowing costs and Germany’s reached a new 12-year high this month.

However, Díaz-Giménez of IESE Business School said France’s outlook was in some ways more positive than that of the euro area’s largest economy.

“In France the economic outlook is quite bleak, but it will not be a catastrophe if additional risks can be avoided. The high budget deficit is difficult to fix and requires political harmony, but you could still find a way to overcome it, it just puts pressure on politicians to do their job and solve the real problems, in this case financial sustainability,” he told CNBC.

“But in Germany growth is the problem. The German economy needs to fully adapt to a new environment without Russian gas, where making cars in Europe looks like a really bad business plan. From an economic point of view, this is more difficult to solve than the French problem.