French election: No majority, no spending surge, but continued uncertainty

No party secured an absolute majority in the French National Assembly, leaving it highly fractured after the election. The left-wing New Popular Front (NPF) became the largest party, securing 182 seats. Macron's centrist "Ensemble" alliance finished second with 168 seats. The far-right National Rally (RN) has unexpectedly taken third place, garnering 143 seats. A party or coalition needs 289 seats for an absolute majority.

Uncertainty about what the new government will look like is high, and there is no obvious majority government to be formed. However, if a majority government is somehow formed, it likely must include Macron’s centrist Ensemble alliance to get above the 289-seat threshold. We must now wait some days or weeks before we know more of what the new government will look like, and it could take even longer before an actual government is formed. In all scenarios the new government will be fragile, as it will consist of different parties with vastly different political views or be a minority government. There is also the risk that no government can be formed, and a technocratic government could be installed for the first time in French history. Uncertainty in French politics is set to persist even after a government is formed as there is a higher than usual risk of the government breaking given the fragmentated results of the election.

However, some uncertainty has been eliminated from markets by the results, as public spending in France is most likely not set to rise significantly since both the left-wing and far-right fell short of an absolute majority. A possible majority government in a coalition including Ensemble necessitates compromises and favours status quo given the different views on fiscal policies the parties in a broad coalition will have. The same would be true for a minority government. A technocratic government would likely neither be able to implement large changes, as it needs broad support. We thus expect the 10y yield spread between France and Germany will tighten to some 40-60 bp within 3 months.

In the coming days, a key question is whether the left-wing “New Popular Front” (NPF) coalition holds or breaks up. As the NPF fell short of an absolute majority, the most moderate parties (Socialists, Greens, and Communists) could potentially break with the far-left “France Unbowed” and form a government with Macron’s centrist alliance. This would keep “France Unbowed” and their leader, Melancon out of power as he has refused to government with Macron’s alliance, which is import for markets. However, even such a coalition would fall short of an absolute majority by around 10 seats. Importantly for markets is also, that it looks unlikely that Le Pen’s far right National Rally will be part of a new government. Another possible scenario is thus a minority government, but it will be in constant thread of no-confidence votes. A minority government will be even weaker than Macron’s Ensemble that had 250 seats in the outgoing National Assembly and even they struggled to pass new legislation. Hence, France is set for a prolonged period of political paralysis.

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