ECB meets amid France's debt crisis: rates expected to pause, no rescue for Paris for now

France's debts in focus as the ECB meets

The deterioration of France's public finances will be the main topic when the European Central Bank gathers for its meeting this week, but policymakers are not expected to rescue the eurozone's second-largest economy for now. According to AFP, the central bank will likely keep rates unchanged, having already raised them twice this year while balancing between curbing inflation caused by the energy shock from the war with Iran and supporting the eurozone economy.

Markets put pressure on Paris

Yields on French government bonds, which reflect the government's borrowing costs, soared last week to their highest level since 2002 amid the standoff over next year's budget, which is meant to reduce the country's enormous debt. Alarm was heightened by protests, partly tied to demands for higher spending on public services, which escalated into the worst street unrest in recent years. Speculation arose that the ECB might for the first time activate its anti-crisis tool for countering sharp market moves — the Transmission Protection Instrument (TPI) — to bring down French bond yields. However, its activation criteria are strict: the instrument may only be used against 'unjustified' market moves that carry a risk of financial stress spreading, but not in cases where problems stem from poor fiscal policy. Most observers believe France's problems do not meet this threshold.

Lagarde's skepticism and economists' forecasts

ECB President Christine Lagarde, who previously served as France's finance minister, was cool toward the idea of intervention. Asked about rising yields, she replied: 'The first and most important decision lies at home, in France. And it concerns fiscal policy'. The head of the French central bank, a member of the ECB's Governing Council, also noted that 'the conditions are not met' for intervention. Andrew Kenningham of Capital Economics predicts there will be no 'lifeline for France' at the meeting: spreads between French and German bonds would have to widen considerably more to justify action. The rate is expected to be kept at 2.5% for the eurozone's 21 countries, despite inflation rising to a three-year high of 3.8% in September; core inflation was almost unchanged. ING economist Carsten Brzeski noted that 'second-round effects from rising energy prices are still very limited,' while France's crisis has 'effectively reduced the odds of another rate hike,' since 'bond markets have taken over the ECB's job.' Most economists expect the final hike of the current tightening cycle in December, when the bank will receive updated growth and inflation projections. The ECB's decision will come a day after the US Federal Reserve's meeting, which, after its September hike, is also expected to keep its rate unchanged.

The question of Lagarde's future

Lagarde will likely also be asked about her future: speculation is growing that she will leave before her term officially ends in October next year. She has been linked to the post of head of the World Economic Forum, which holds its annual gathering of the global elite in Davos, but she has not yet commented: at the last meeting in September she said she had 'nothing to report.' Editorial analysis: the key fork in the situation is the strict TPI criteria, which explicitly exclude assistance for problems caused by fiscal policy; that is why, according to the assessments cited by AFP, Paris should not count on the central bank. For France, this means market pressure will continue to serve as a disciplining mechanism: rising yields, as noted in the publication, tighten financing conditions and raise borrowing costs for businesses and households — an effect comparable to a rate hike. What remains unknown: the outcome of the budget standoff in Paris and how much spreads would need to widen for the ECB to consider intervention justified.