On March 31st 2022, the rate of the 10 years bond issued by the French State has reached 1,02%. At the beginning of the month, this rate was 0.43% and, a year ago, -0.35%. This rebound is not the consequence of investors mistrust about France due to a strongly growing indebtedness because it is general in the euro-zone and the spread with the German bond on the same maturity has little fluctuated around 40 basis points. It is more revealing of the financial markets moves about the anticipations of the European Central Bank action. The phenomenon is not limited to Europe. The Federal Reserve has clearly put forward, as its British counterpart, its will to put an end to its accomodative policy and forecasts several significant rates increases from now to the end of the year to fight against inflation which has taken on the other side of the Atlantic worrying proportions. So these short-term rates increases will be passed on the mid and long term maturities.
After having hesitate to toughen their monetary policies in order to avoid to affect the economic rebound and to risk to provoke a financial markets deep fall and after having assessed the consequences of the invasion of Ukraine, so the central banks have made their choices according to their mandates. Inflation has just overpassed 7% in the United States and in Germany and could reach an average of 8% in the euro-zone this summer, a level never reached for several decades. France is among the good pupils with a price increase, according to the INSEE first estimation for March, of 4.5% year-on-year and 1.4% on one month.
The phenomenon was still considered as transitory after the sanitary crisis. The supply chains were going to be rebuilt and the bottlenecks will be progressively brought down. The war in Ukraine has put into question this reasoning with the certainty of lasting tensions on most of commodities markets. The areas affected by the battles cannot anymore produce. The sanctions forbidding some exchanges and the threats weight on the safety of transportation circuits in the Black Sea and in Central Europe, which hurt goods flows and perturbate the supply of factories with components and spare parts. Even if an agreement was found to put an end to the invasion and to the fights, the consequences of this situation will not be quickly reduced. So developped countries must learn again to leave in an inflationnist context with the consequences on the purchasing power at a time when they have strongly increased their indebtedness.
It is in that context that occurs the rates increase and many are these who are going to deliver an alarmist message. Is the addition of a very high indebtedness and the interest rate rebound constituting for France a threat whose financial situation has already been affected by the « whatever it costs » policy adopted to soften the consequence of the sanitary crisis ? Until now the programs of the candidates at the presidential election especially include new expenditures, sometimes very important, and seem not to be worried by this new financial environment.
The threat is, in reality, less worrying than it looks. The interest rates rebound is, yet, spectacular, +1.5% on one year. But it is by large inferior to the inflation rebound passed from 1.5% to 4.5%. So real rates have strongly fallen and even if the ECB starts to increase its rates before the end of the year, it is little likely that the increases are of the same size that the consequences on consumption prices of the perturbations on the commodities and industrial goods markets. So the financial ratios which compare the public deficits and indebtednesses to the GDP will mechanically be improved.
To the opposite, the reduction observed duraing several years of the public debt charge thanks to very low and sometimes negative rates is going to slow before coming back to an increase, especially if the State still issues bonds indexed on the euro zone inflation, which is by large superior to the country one. In April, the State will reimburse a 41 billions euro loan carrying a 3% interest rate. So since next year, it will save every year 1.2 billion. But to refinance itself, it will have to issue a new bond with the same amount. Last year, with a zero rate, it was getting back the full amount of the saved sum. With a 1% rate as it is observed today, it will save only 0.8 billion.
But the main risk is not there. In July, it will have to reimburse a 18 billion loan, indexed on the euro zone inflation carrying a 1.1% rate. The yearly interest charge was only 200 million. But the indexation charge it will have to pay to the investors at the maturity will be near 4 billion euros.
So the main consequence of inflation on public finance doesn’t lay in the interest rates increases it will make it necessary but in the effects on the indexed share of the public debt, especially at a time when wages and pensions are not indexed. It is not too late to wake up to the situation and to draw the conclusions